Lior Schnabel is a Co-Managing Partner at Precise, a company that provides financial management and control services for architectural and engineering firms across the USA and Europe.
Architectural and engineering firms are designing, planning, and leading projects worth hundreds of millions of dollars. Their professional services affect the quality and success of each one of those projects. You might think that this type of business would be highly profitable, but that is not always the case. Although some A/E firms maintain a decent profit margin, why are so many others struggling?
After working with 450 A/E firms worldwide over the past 25 years, I can safely point out a number of reasons.
Differentiating Yourself From Everybody Else
A/E is a very competitive market. There are a so many firms in this field that it’s difficult for clients to identify and understand the differences between them. In these cases, price often becomes the deciding factor. Yet, as firms lower their rates to attract new business, they become less and less profitable. Instead, firms can stand out from the pack by focusing on a variety of parameters, such as:
- Design
- Creativity
- Problem solving
- Service and responsiveness
- Handling of approvals and permits
- Keeping to budgets and timetables
- Adding value to the client’s sales
You need to think about why a client would agree to pay more for your services than for those of your competitors. Of course, this not just a marketing issue; you also need to be professional and provide brilliant design work. Still, the point is that these approaches are not always enough.
There are many reasons why A/E firms are not profitable enough, but the main reason that I want to address is financial management.
Prudent Financial Management in an Industry Characterized by Uncertainty
Every A/E firm works on dozens, or even hundreds, of projects, simultaneously. Each one of those projects is characterized by its own complexity and scheduling issues. The aggregated uncertainty is what makes everything so complicated. The complexity of each project depends on many different variables, with some only identifiable in the heat of the project, whether it be professional complexity, the decision-making process of the client, or the integration of other consultants, etc.
There could also be a business conflict between the client and the firm. In the A/E industry, cost is measured in hours: in order to protect itself from losing money, an A/E firm will typically prefer to bill on an hourly basis. The client, on the other hand, who is usually limited to a fixed budget, prefers a fixed price (or an hourly with a cap).
Since the client is (almost) always king, the A/E firm needs to estimate the amount of resources (hours/staff) necessary to complete the project. Because of the uncertainty, this is not trivial. So, it is crucial to review your initial estimate and check how accurate it is. From my experience, there are significant differences between the A/E firm’s estimate and the actual hours spent on the project. Check for yourself – what is the percentage of profitable projects in your business?
Even if you can estimate the exact number of hours/staff on a certain project, it doesn’t mean that you are going to be profitable. Many factors affect your hourly cost. Let’s say, for example, that when you started a project, your firm had 50 professional employees, but you’ve since downsized to 40, say, due to COVID-19. The direct consequence of that downsize is a 25% increase in your overhead rate. Did you take that into consideration?
Is it possible to manage dozens, or hundreds, of projects amidst all this uncertainty? Well, it’s not easy, but there are some things you can do. The key is to realize that you are managing a business that is changing every day, so you need to have a real-time decision-making process in place, fed by real-time data. Here are seven steps that will help you overcome these complexities:
1. Pricing
Use your experience. It’s not just about market rates. Learn from your own business by determining how many hours you spent on similar projects.
2. Monitoring Projects
Monitor your projects’ profitability regularly and adjust your staff according to the latest developments on each project, while recognizing changes and additional services on a real-time basis.
3. Projections
Obtain accurate projections for all your firm’s projects and review them on an ongoing basis.
4. Firm Staff Allocation
Allocate your staff according to your projections. You will sometimes discover that your employees spend more time on a particular project, due to lack of workload on other projects.
5. Keeping to Objectives and Budgets
Monitor your firm according to financial and efficiency objectives, and make your decisions based on performance and projections.
6. Process
Create financial processes to support financial management, including project management (e.g., “Let’s push this project forward, and slow this one down”), billing, change orders, collection, etc.
7. Focus
Don’t micro-manage! With so many projects and staff, it’s easy to get lost in micro-management. In order to be efficient, you need to be focused. So, spend your management efforts on the things that make a difference, and help you meet your financial objectives.
Conclusion
In conclusion, Architecture and Engineering firms are some of the most complicated businesses to manage. You need a high-level person that understands both the design process and the financial management process, who will oversee your financial performance. The good news is, that firms that adopt the guidelines listed in this article, should see a substantial improvement in their efficiency and profit. Don’t be the lumberjacks, who don’t have enough time to sharpen their axes.
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