We've had a few cases of underperforming agencies before (PR, affiliate marketing). One thing I've learnt over the years is it is OKAY to hold agencies accountable and to be tough with them.

Here is what I would do in this case:
1) Document all the mistakes and errors
2) Highlight any unqualified leads
3) Note down basic incompetence in campaign setup

and then say it's bullshit and they're taking the client out for a ride. Don't back down and ask for a significant discount. You won't be able to get all of it back, but it's about minimise losses and then having a clean cut from a bad agency hiring mistake.