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You Survived: Part 1: Regaining Profitability - and Moving Ahead
Take control of the financial life of your business, uncover hidden revenue streams and new service offerings while charting a more stable course for the future.
By Michael S. Bernard, AIA, and Nancy Kleppel, Assoc. AIA
June 29, 2011
Editor’s note: This is the second in an exclusive ArchNewsNow.com series that will present a broad spectrum of ideas related to professional practice and how to better run an architectural firm.
A well-worn anecdote shared among design professionals features an architect who, unexpectedly, comes into a significant family inheritance. The architect shares this news with colleagues. When asked, “How will you spend the money?” the architect replies: “Well, I thought I’d run my own design practice until the money runs out.”
Building a revenue model
One of the cornerstones of a solvent design practice is the development and maintenance of a revenue model. Rather than rely on the “retro-view” method, in which we learn after the fact how much money our firm lost last month, we can pro-actively construct a clear model in which we establish our revenue goals. We identify and input costs and expenses carried by the company, including labor, rent, insurance, and so on. We can easily obtain this information from bookkeeping records.
Let’s talk basics for a moment: What does my business structure look like?
During the intense course of design education, architects are not provided with extensive training in business. The focus of our professional training, appropriately, is design, although other educational opportunities permit specialization in sustainability, technology, digital media, landscape urbanism, and a host of design-driven areas. Seldom is much attention given to the “money side” of running a design business. At best, the topic of profitability is addressed in one or two lectures in a NAAB-mandated course on professional practice. If we were to give more attention to the business side of practice – we would be MBA’s! But we are not. We are architects.
Architects are poised to be among the most entrepreneurial of the professions. More than dentists, doctors, and lawyers, we are subject to great economic swings, from boom times to recession. One would think that, given the vulnerability of our profession, we would be better trained to understand the significance of control of profitability – and of money in general – in our work. But our training often only equips us with general information at best. Simply put, we learn a lot of what we know about money management and financial integrity on the fly, based on real-life experience rather than in school.
All is not lost. Many of us understand the importance of a solid business foundation and we realize that accomplishing this is not an impossible task. A few key concepts can lead to an easy-to-understand, manageable business structure.
While fees for services are the life-blood of most design firms, strategic planning can be its own revenue generator.
Principals need to cultivate an awareness of the value and importance of consistent and continuous investment in the firm. A prudent business owner will strategically limit the distribution of the firm’s profit to salaries and bonuses. Profit can be allocated directly to initiatives that assure the achievement of long-term objectives. For instance, the investment may be in the form of a strategic hire, or in new technology or staff training. Business savings can permit the strategic acquisition of another design firm with complementary skills and market access.
How can I assure my firm’s viability in the current economy?
At present, there is a significant amount of consolidation taking place in the A/E/C world. Firms which prudently husband revenue-funded savings can position themselves to make strategic business choices that enhance the vitality and flexibility of the design enterprise. It is difficult to anticipate whether these opportunities will present themselves to a firm. Still, building a cash “nest egg” insures the business against the unpredictable ebb and flow of project backlog.
Alternative services can subsidize or underwrite a design practice in a lean period where traditional business development efforts are not producing results. Can you identify a complementary service that your firm is uniquely suited to provide? Such a strategy can not only sustain the design side of the practice but also can subsidize business development costs. And pushing the question even further: can this complementary business stand alone, generating revenue to a level that permits the “parent” firm to retain valuable employees that are not 100% billable? Although your firm may lack the funds now to support alternate revenue streams, think now about the viability of such a strategy – and plan for it.
Some design firms have embarked on entirely independent business enterprises, capable of generating secondary revenue streams that support the design side of a practice. See Case Studies below for a range of examples.
Financial planning creates a resource that leads to a firm’s durability.
Prudent financial planning supports the reality that a design firm is a business. This understanding can mean the difference between survival and demise of a design firm, regardless of talent, portfolio, or staff. Save money. Generate revenue. Sock it away. Foster the attitude that revenue set aside as savings can, in the future, generate its own revenue stream for the company. This revenue can carry a firm through extended difficult periods. A design practice is, at its core, a creative community. We learn to work together in ways that make our product easier and more efficient to achieve. Yet, as we’ve learned, our creative communities are vulnerable to the whims of the economy. A philosophy of fiscal prudence can be communicated to staff in terms of efficient performance, clear communication, and lean expenditure of project fees.
Balancing Revenue Opportunities and Backlog
The salary potential in a traditional solo practice is modest, even if the backlog is deep and expenses are manageable. We have a steady income, so it is tempting to change nothing. The principal’s salary stays low, and the backlog of work remains deep, assuming no economic crisis puts several pending projects on hold. Or, we double the size of the practice by adding an employee.
If we pursue the second option, several changes can take place. Business expenses increase, due to the costs associated with the new employee. The firm’s backlog of work shrinks because, in theory, the new employee will expeditiously and efficiently process the backlog of design and production tasks.
The most important change is that the principal’s job description changes. We are no longer the only worker performing all of the firm’s design and operations tasks. We now must devote more time to communicating the firm’s design vision, in the form of mentoring, supervision, and review. More importantly, we have to dedicate more time to the critical task of business development, to bolster the backlog that is expeditiously completed. As a result, there is less time available for a principal to devote to pure design tasks.
If we make these changes, we can begin to see an appreciable increase in revenue. We recognize that employees are not just people who simply crank out work. These individuals are revenue generators who ably assume the responsibility to work efficiently to bolster the bottom line of a firm.
Armed with this information, we can transform our practices from reactive (“How will I ever get this work done?”) to pro-active (“This is the revenue target I seek. What is the mix of projects and staff that will help me to achieve my business goals?”).
In our next installment, “Mapping the Path to Your Next Project and a More Predictable Workload,” we will address the essentials of business development, how to get started, and how to consistently address the need to reach out to clients.
These three San Francisco-based firms have established entirely independent business enterprises generating secondary revenue streams that support the design side of their practices:
NC2 Studio Principals Russ Naylor, AIA, and Heddie Chu designed a multi-family residential project in Southern California. The construction budget was tight and in order to reduce project cost, the client proposed to substitute inexpensive “Schedule 40” pipe in the place of custom-crafted handrails and guardrails. Not satisfied with this solution, Russ sought to determine why handrails were so expensive and attempted to control costs around those elements (welding, grinding, and joinery). In other words: labor. Naylor figured out that a pattern could be laser-cut into sheet steel for less than the cost of the less-desirable pipe rail. Out of this discovery, he and Chu nurtured a growing secondary business in modular railing design, BOK Modern. They took advantage of the slow business period that defined the recession, seeing it as an opportune time to focus on developing a revenue stream that assures the future stability of their design firm.
Naylor and Chu see BOK Modern and the steps that led to its development as a wake-up call. Running a complementary business allows them to enhance revenue while preserving the brand that defines their design practice. As a result, they are able to retain rather than lay off employees, shifting them to other tasks. The added revenue also permits NC2 Studio to increase budgets for marketing and cross-marketing to better handle the current competitive design environment.
Another example of a complementary revenue stream is Green Compliance Plus, an energy envelope calculation consultancy founded by Mark English, AIA, principal of Mark English Architects. He has long had an interest in green architecture and compliance methods, to the point where he performed energy calculations for his own projects and then for a few friends, thinking of it more as a hobby than a business.
As an architect whose portfolio is comprised mainly of high-end, single-family residential work, English saw the challenge of continually designing what amounts to a prototype for each new residential client. Residential projects are often one-of-a-kind and seldom lead to subsequent projects with the same client. So he developed a subsidiary business that focuses on the preparation of Title 24 energy envelope calculations, marketing to architects. By doing so, he created the prospect of repeat work with repeat clients. The energy guidelines and requirements established in California’s Title 24 are constantly changing and English stays up to date with the changes to the code. Consequently, he presents tremendous value to his clients: other architects. The business turns out to be a great profit center, and he has tripled his client base of architects – who are loyal and return for future services.
Currently, Green Compliance Plus generates 20% of English’s revenue stream. An added value is that it evens out the peaks and troughs that often plague a small residential design firm. The billing cycle is less predictable due to the fact that invoices are paid when the calculations are complete. Income is thus constant although incremental. But this incremental income tides the firm over – and has reduced its dependence on the line of credit. The resulting revenue positively supports the design practice by subsidizing marketing efforts. It pays the office manager’s salary, whose role is to market and to expand the reach of firm. English’s goal is that Green Compliance Plus will generate 50% of his revenue stream. At that point, he will be able to pursue pro-bono work and to take design risks that are not possible at this point, such as design competitions and extra time spent on critical project design issues.
Susie Colliver is a founding principal of the firm Herman Colliver Locus Architects. In the mid-1970s she opened a unique art supply business, Arch, that caters chiefly to architects and interior designers. The products and materials were (and remain) of high quality – and were in high demand. But the nature of the art supply business has changed. In previous recessions, 10 to 20 years ago, designers, architects, students still needed art supplies to do their work. Today, students, rather than the design community, constitute the larger share of consumers. But, overall, with the shift to technology, design work is computer-based. The need for physical materials to do one’s work has significantly diminished. Few designers need Prismacolor pencils, French curves, compasses, yellow trace, or museum board for model-building. Even plotter paper, formerly a mainstay of the store, is supplied to firms by the reprographics company from whom the plotter is leased.
As a result, Arch may no longer be a reliable hedge during a weak economic period. The message here is that alternate revenue streams may have a “sell-by” date. A complementary business that successfully generates revenue today may be outmoded by the next recession. If a firm chooses the strategy of considering an alternate source of revenue as a design-side subsidy, one must integrate into the business plan the willingness to modify and change to meet consumer needs as they evolve over time.
In short, alternate revenue streams can subsidize even the most financially healthy design firm. The additional revenue makes the difference between initiatives that move forward – and those that remain pipe dreams.
Before your firm embarks on this path, think ahead about what the likely outcome will be for you and for your firm. Ideally, the alternative services will generate more funding – and will drive more design opportunities to your practice.
About the authors:
Michael S. Bernard, AIA, Principal, Virtual Practice Consulting, serves as strategic adviser to design and construction firms. Since founding his consultancy in 2006, Michael has collaborated with firm owners to address the range of vital functions, including: development of revenue and growth models appropriate to the size of the firm; strategic business development and marketing; and mentoring of key staff to foster their development as effective project leaders. His clients also include landscape architects, interior designers, lighting designers and general contractors. Michael is adjunct professor in the Architecture Department at the California College of the Arts, San Francisco. He recently completed his term as a Director on the Board of the AIA California Council, where he continues to act as Architect-Adviser to the Academy for Emerging Professionals.
Nancy Kleppel, Assoc. AIA, Principal, Nancy Kleppel Consulting, has pursued a career in architecture for more than 25 years. Beginning in the office of William Rawn Associates, she went on to a professional architectural education at Harvard University’s GSD and spent several years in practice. For the past 15 years Nancy has been directly engaged in the essential issues that drive firm growth and success, including marketing, business development, and firm organization and management. In 2003, she founded a consulting practice, providing integrated strategic marketing, business development, and communications services to a broad mix of clients in design, architecture, engineering, and the arts.
(click on pictures to enlarge)
David R. Tribble
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