Enhancing Profitability for Architecture Firms


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Architectural service firms typically have a great deal of trouble controlling their profitability, even in the best of times. This presentation from 2006 covers some basic approaches for enhancing profitability in architectural practice.

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  • Great advice Gregory. I think much of the inertia observed in architecture stems from the vagaries in pricing the architect’s service created by the intangibility of some aspects of our role (i.e. design). This means that it can be difficult to calculate the profit or loss contribution of individual assignments. The development of a pricing strategy can therefore be useless because the target of such a strategy cannot be accurately identified. Architects still have not fully gauged the value of their service and instead tend to rely on the total profitability of their operations to ensure continuing activity.

    Forgive me if I'm wrong, the example you have given I'm taking it might apply to, lets say, a multi-storey apartment block or a multi-unit housing scheme. 1. you ensure you have market intimacy i.e. you should aim to be expert at housing design and crucially test and be aware of the added monetary or time value your expert design service offers over standard approaches- so your previous schemes may sell or rent for higher than market rate OR your experience and management approach means you can get through approvals faster than the norm thus saving the client $. 2. you ensure client intimacy i.e. you understand how the client raises financing, how their product operates in the market, and the timelines they work to OR what they value most; image, good PR etc. You then integrate 1 and 2.

    In this example you could probably gauge that your practice adds on average X% in value to completed projects and therefore could justifying adding the same proportion to the standard fee (?). Or requesting equity Or bonuses for delivering what you claim.

    I may have already answered my own question but I was going to ask if you had perhaps an example of how this may scale down to smaller projects or transfer to the less tangible elements of our service that may not be easily linked to monetary or time value (is there any other kind?!).
    Many thanks.
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  • Hi Kirk. Thanks for the praise.

    Value pricing can seem like voodoo, but it's not terribly difficult if you do a bit of research. You want to find out as much as you can about your client's business model. Where is their cost and profit? How much of their cash flow and profit is dependent on what you do for them? How price-sensitive are they associated with those profits and cash flows? Do they already understand/experience the value of what you do for them or do you have to educate them on this?

    Knowing those things will help you define the range of value for your services from their perspective, and then you can price in that range.

    As an example, when I was doing a lot of feasibility study work, I had some great stories I could tell about the value I provide in the study and service associated with it. 'How much would you pay to net $1 million in real value accrual in six months?' is a very effective value-pricing pitch if you can back it up with real-world results.
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  • Gregory, like most of your commentary I have come across, this presentation really shows insight and understanding of the profession. One question; how does a practice go about putting a monetary value on market intimacy (i.e. how do we 'price on value' or charge market-targeted prices proportional to specific values)? Many thanks.
    K. McCormack.
    Dublin, Ireland.
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Enhancing Profitability for Architecture Firms

  1. 1. Enhancing Profitability Value, Innovation & Risk in the practice of Architecture
  2. 2. Enhancing Profitability <ul><li>“ We can’t do great architecture unless we make money” </li></ul><ul><li>Charles Strazzara, AIA </li></ul><ul><li>“ Good work and good profits are inextricable.” </li></ul><ul><li>James T. Brown, AIA </li></ul>
  3. 3. Enhancing Profitability <ul><li>Profit: Both Sides of the Equation </li></ul><ul><ul><li>Profit = Revenue - Overhead </li></ul></ul><ul><ul><li>+ Revenue (R) </li></ul></ul><ul><ul><ul><li>Monthly Billings </li></ul></ul></ul><ul><ul><ul><li>Residuals and Royalties </li></ul></ul></ul><ul><ul><li>Overhead (F + V) </li></ul></ul><ul><ul><ul><li>Salaries and Benefits </li></ul></ul></ul><ul><ul><ul><li>Rent and Utilities </li></ul></ul></ul><ul><ul><ul><li>Consumables </li></ul></ul></ul><ul><ul><ul><li>Sub-consultant Fees </li></ul></ul></ul><ul><ul><ul><li>Insurance </li></ul></ul></ul><ul><ul><ul><li>Uncompensated Risk </li></ul></ul></ul>
  4. 4. Enhancing Profitability <ul><li>Profit Scorecard 2006 </li></ul><ul><ul><li>Gross Profit </li></ul></ul><ul><ul><ul><li>Median*: 13% </li></ul></ul></ul><ul><ul><ul><li>Top 10%*: 28% </li></ul></ul></ul><ul><ul><ul><li>Our Firm: 27% </li></ul></ul></ul><ul><ul><li>Net Revenue Per Person </li></ul></ul><ul><ul><ul><li>Median*: $93,000 </li></ul></ul></ul><ul><ul><ul><li>Top 25%*: $113,000 </li></ul></ul></ul><ul><ul><ul><li>Our Firm: $132,600 </li></ul></ul></ul><ul><ul><li>Net Multiplier (Net Revenue / Direct Labor Cost) </li></ul></ul><ul><ul><ul><li>Median*: 3.3 </li></ul></ul></ul><ul><ul><ul><li>Top 25%*: 3.9 </li></ul></ul></ul><ul><ul><ul><li>Our Firm: 4.8 </li></ul></ul></ul><ul><ul><li>* from PSMJ Firm Survey 2005/2006 </li></ul></ul>
  5. 5. <ul><li>We’re doing well. </li></ul><ul><li>But how can we do better ? </li></ul><ul><li>“ The greatest danger for most of us </li></ul><ul><li>is not that our aim is too high and we </li></ul><ul><li>miss it, but that it is too low … </li></ul><ul><li>… and we reach it.” </li></ul><ul><li>Michelangelo </li></ul>Enhancing Profitability
  6. 6. Enhancing Profitability <ul><li>Sources of Profit </li></ul><ul><ul><ul><li>SALES of products for a multiple of cost </li></ul></ul></ul><ul><ul><ul><ul><li>Services provided </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Time sold </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Deliverables and Milestones </li></ul></ul></ul></ul><ul><ul><ul><li>SPECIFIC VALUE provided </li></ul></ul></ul><ul><ul><ul><ul><li>Satisfying market demand </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Offering something unique </li></ul></ul></ul></ul><ul><ul><ul><li>LEVERAGE of capital and effort </li></ul></ul></ul><ul><ul><ul><ul><li>Royalties and equity participation </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Continuous re-sale of intellectual capital </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Development of new value to offer </li></ul></ul></ul></ul><ul><ul><ul><li>PROCESS control </li></ul></ul></ul><ul><ul><ul><ul><li>Effective business systems </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Refinement and efficiency of effort </li></ul></ul></ul></ul>
  7. 7. Enhancing Profitability <ul><li>Major Sources of Risk and Loss </li></ul><ul><ul><li>Bad Project Management </li></ul></ul><ul><ul><ul><li>Source of 90% of claims (per DPIC study & PSMJ Report) </li></ul></ul></ul><ul><ul><ul><li>Loss of control on costs, changes, and time </li></ul></ul></ul><ul><ul><li>Bad Contracts </li></ul></ul><ul><ul><ul><li>Open-ended commitments, penalties, and assumption of risk without compensation </li></ul></ul></ul><ul><ul><li>Bad Pricing </li></ul></ul><ul><ul><ul><li>Commodity pricing attracts price-focused clients and creates a downward spiral </li></ul></ul></ul><ul><ul><li>Bad Budgeting </li></ul></ul><ul><ul><ul><li>Predicting the Future vs. Strategic Targeting </li></ul></ul></ul><ul><ul><li>Bad Financial Controls </li></ul></ul><ul><ul><li>Lack of Accountability </li></ul></ul>
  8. 8. Enhancing Profitability <ul><li>What Does NOT Present Large Risk </li></ul><ul><ul><li>Technical Errors </li></ul></ul><ul><ul><ul><li>Fewer than 5% of claims originate in errors or omissions </li></ul></ul></ul><ul><ul><li>Falling Utilization Rates </li></ul></ul><ul><ul><ul><li>A strong pricing strategy and efficient project management can allow significant fall-off in utilization with increased profit </li></ul></ul></ul><ul><ul><li>Loss of Price-Shopping Customers </li></ul></ul><ul><ul><ul><li>The 80/20 Rule: Our 20% worst customers cost us upwards of 80% of our profit potential </li></ul></ul></ul>
  9. 9. Enhancing Profitability <ul><li>“ Manage on Cost; </li></ul><ul><li>Price on Value.” </li></ul><ul><li>Frank Stasiowski, FAIA </li></ul><ul><li>“ Change is Constant. Change is Inevitable.” </li></ul><ul><li>Benjamin Disraeli </li></ul>
  10. 10. Enhancing Profitability <ul><li>Enhancing Profitability: Overhead </li></ul><ul><ul><li>Ways to reduce our overhead load… </li></ul></ul><ul><ul><li>Streamline Work Processes </li></ul></ul><ul><ul><li>Manage Schedules </li></ul></ul><ul><ul><li>Control Scope </li></ul></ul><ul><ul><li>Control Quality </li></ul></ul><ul><ul><li>Be Financially Accountable </li></ul></ul>
  11. 11. Enhancing Profitability <ul><li>Enhancing Profitability: Overhead </li></ul><ul><ul><li>Streamline Work Processes </li></ul></ul><ul><ul><ul><li>Refine and make explicit our project delivery process </li></ul></ul></ul><ul><ul><ul><li>Define tasks </li></ul></ul></ul><ul><ul><ul><li>Build on and re-use past effort, knowledge, and experience wherever possible. </li></ul></ul></ul><ul><ul><ul><li>Automate everything we can. Leverage I.T. </li></ul></ul></ul><ul><ul><ul><li>Work smart , not hard </li></ul></ul></ul>
  12. 12. Enhancing Profitability <ul><li>Enhancing Profitability: Overhead </li></ul><ul><ul><li>Manage Schedules </li></ul></ul><ul><ul><ul><li>Tighten time frames wherever practicable </li></ul></ul></ul><ul><ul><ul><li>Define and meet task completion targets </li></ul></ul></ul><ul><ul><ul><li>Continually track actual progress against the baseline schedule. Use Earned Value analysis methods to spot trouble early. </li></ul></ul></ul><ul><ul><ul><li>Don’t agree to deadlines which are dependent on the performance of uncontrollable outside parties. </li></ul></ul></ul>
  13. 13. Enhancing Profitability <ul><li>Enhancing Profitability: Overhead </li></ul><ul><ul><li>Control Scope </li></ul></ul><ul><ul><ul><li>Clearly define project scope and avoid rework </li></ul></ul></ul><ul><ul><ul><li>Get paid for changes when they occur </li></ul></ul></ul><ul><ul><ul><li>Benchmark progress and get owner sign-off </li></ul></ul></ul><ul><ul><ul><li>Watch out for stealth risk and responsibility transfers </li></ul></ul></ul><ul><ul><ul><li>Don’t promise more than required to get it done </li></ul></ul></ul>
  14. 14. Enhancing Profitability <ul><li>Enhancing Profitability: Overhead </li></ul><ul><ul><li>Control Quality </li></ul></ul><ul><ul><ul><li>Target deliverables at specific needs and audiences. Don’t over-detail or load with extraneous or redundant information. </li></ul></ul></ul><ul><ul><ul><li>All information provided in deliverables must be accurate, legible, and coordinated. </li></ul></ul></ul><ul><ul><ul><li>If you’re not sure whether to include it, don’t </li></ul></ul></ul><ul><ul><ul><li>Every deliverable creates an expectation for our service … they must be well-presented. </li></ul></ul></ul>
  15. 15. Enhancing Profitability <ul><li>Enhancing Profitability: Overhead </li></ul><ul><ul><li>Be Financially Accountable </li></ul></ul><ul><ul><ul><li>Focus effort on project tasks to increase hour utilization and dollar chargeability </li></ul></ul></ul><ul><ul><ul><li>Track time and dollar expenditures against benchmarks daily </li></ul></ul></ul><ul><ul><ul><li>Get paid for the work we’re doing </li></ul></ul></ul><ul><ul><ul><ul><li>Don’t undertake non-scope tasks for free </li></ul></ul></ul></ul><ul><ul><ul><ul><li>PMs should make sure payments are current </li></ul></ul></ul></ul><ul><ul><ul><li>Build the profit margin into the work plan as a baseline … and don’t touch it </li></ul></ul></ul>
  16. 16. Enhancing Profitability <ul><li>Enhancing Profitability: Revenue </li></ul><ul><ul><li>Develop a Clear Market Strategy </li></ul></ul><ul><ul><ul><li>Develop client intimacy </li></ul></ul></ul><ul><ul><ul><li>Make the case for the value, tailor the package to the specific need </li></ul></ul></ul><ul><ul><ul><li>Charge market-targeted prices proportional to specific values, not cost </li></ul></ul></ul>
  17. 17. Enhancing Profitability <ul><li>Enhancing Profitability: Revenue </li></ul><ul><ul><li>Price on Value </li></ul></ul><ul><ul><ul><li>Develop client intimacy </li></ul></ul></ul><ul><ul><ul><ul><li>Understand their business & cash flow </li></ul></ul></ul></ul><ul><ul><ul><ul><li>What can we do that has value for them? </li></ul></ul></ul></ul><ul><ul><ul><li>Make the case for the value, tailor the package to the specific need </li></ul></ul></ul><ul><ul><ul><li>Charge market-targeted prices proportional to specific values, not cost </li></ul></ul></ul>
  18. 18. Enhancing Profitability <ul><li>Enhancing Profitability: Revenue </li></ul><ul><ul><li>Establish a Pricing Policy </li></ul></ul><ul><ul><ul><li>Integrate the pricing policy with the market strategy </li></ul></ul></ul><ul><ul><ul><li>Set base prices and rates according to profit criteria and client value </li></ul></ul></ul><ul><ul><ul><li>Establish price review for all outgoing proposals </li></ul></ul></ul><ul><ul><ul><li>Never discount or lowball. Ever . </li></ul></ul></ul>
  19. 19. Enhancing Profitability <ul><li>Enhancing Profitability: Revenue </li></ul><ul><ul><li>Leverage Assets </li></ul></ul><ul><ul><ul><li>Partner with our clients </li></ul></ul></ul><ul><ul><ul><ul><li>Equity participation </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Performance bonuses </li></ul></ul></ul></ul><ul><ul><ul><li>Develop intellectual capital and use it </li></ul></ul></ul><ul><ul><ul><ul><li>Unique products and services </li></ul></ul></ul></ul>
  20. 20. Enhancing Profitability <ul><li>Value Propositions & Niche Markets </li></ul><ul><ul><li>The Value Proposition: </li></ul></ul><ul><ul><ul><li>Value = Benefit – [Direct Cost + Indirect Costs] </li></ul></ul></ul><ul><ul><ul><li>( niche ) ( commodity) </li></ul></ul></ul><ul><ul><li>Examples of Market Niches: </li></ul></ul><ul><ul><ul><li>Customer / Project Type Focus </li></ul></ul></ul><ul><ul><ul><li>Technical Expertise </li></ul></ul></ul><ul><ul><ul><li>High Design </li></ul></ul></ul><ul><ul><li>The Strategy: </li></ul></ul><ul><ul><ul><li>Break down our services to find our value propositions </li></ul></ul></ul><ul><ul><ul><li>Abandon or reduce commodified elements </li></ul></ul></ul>
  21. 21. Enhancing Profitability <ul><li>The Product-Development Market Cycle </li></ul><ul><ul><li>Developing Market Intimacy costs money </li></ul></ul><ul><ul><li>Special products and services can be priced on value until the competition catches up (Value, or Niche Markets) </li></ul></ul><ul><ul><li>Without further value differentiation, competition will ultimately focus all market decisions on price (commoditization). </li></ul></ul>
  22. 22. Enhancing Profitability <ul><li>Value-focused Response to the Cycle </li></ul><ul><ul><li>Continuing product development keeps the revenue curve firmly in the “value pricing” range at all times, avoiding commodity markets while developing new niches to replace closing ones </li></ul></ul><ul><ul><li>Examples: Consumer Electronics, Software, Fashion Design, Management Consulting </li></ul></ul>
  23. 23. Enhancing Profitability <ul><li>Architect’s Traditional Revenue Model </li></ul><ul><ul><li>Majority of revenue from billing time spent on CDs </li></ul></ul><ul><ul><li>Design generally under-priced and abbreviated in order to get CD phase underway quickly </li></ul></ul><ul><ul><li>Pricing power significantly weakened as document production becomes commoditized </li></ul></ul><ul><ul><li>Tendency to sustain losses at start and finish </li></ul></ul>
  24. 24. Enhancing Profitability <ul><li>A Value-Focused Revenue Model </li></ul><ul><ul><li>Effort focused on providing and developing high-value services (design, analysis, facilitation, specialized consulting, etc.) and marketing them aggressively </li></ul></ul><ul><ul><li>Commoditized portions of the work automated or sub-contracted. </li></ul></ul><ul><ul><li>Clients get high level of intellectual capital </li></ul></ul>
  25. 25. Enhancing Profitability <ul><li>Addressing the Profit Equation </li></ul><ul><ul><li>+ Revenue (R) </li></ul></ul><ul><ul><ul><li>Pricing Strategy </li></ul></ul></ul><ul><ul><ul><li>Market Strategy </li></ul></ul></ul><ul><ul><ul><li>Leveraging Intellectual Capital </li></ul></ul></ul><ul><ul><ul><li>Realization Budgeting </li></ul></ul></ul><ul><ul><ul><li>Measuring Performance </li></ul></ul></ul><ul><ul><ul><li>Compensation for Risk Assumed </li></ul></ul></ul><ul><ul><ul><li>Timely Completion of Work </li></ul></ul></ul><ul><ul><li>Overhead (F + V) </li></ul></ul><ul><ul><ul><li>Cash Flow Management </li></ul></ul></ul><ul><ul><ul><li>Accountability </li></ul></ul></ul><ul><ul><ul><li>Billing and Collection </li></ul></ul></ul><ul><ul><ul><li>Controlling Process: Schedule and Changes </li></ul></ul></ul><ul><ul><ul><li>Reducing Risk Factors </li></ul></ul></ul>
  26. 26. Enhancing Profitability <ul><li>Current Issues </li></ul><ul><ul><li>A significant portion of our revenue comes from services provided in a commodity market </li></ul></ul><ul><ul><li>Our highest-value services and products are significantly under-priced in proportion to client benefit, while most of our fee is charged for a commodity service (construction documents) </li></ul></ul><ul><ul><li>Some of our high-value services and products are not directly charged at all </li></ul></ul><ul><ul><li>Very little of our work is leveraged beyond specific projects </li></ul></ul><ul><ul><li>Many of our critical work processes are highly inefficient and idiosyncratic </li></ul></ul><ul><ul><li>Poorly-managed changes bleed the bottom line </li></ul></ul><ul><ul><li>Innovation is not a core part of our company culture, business model, or market strategy </li></ul></ul>
  27. 27. Enhancing Profitability <ul><li>Re-Thinking Our Products & Services </li></ul><ul><ul><li>Are we selling Time or Value? </li></ul></ul><ul><ul><li>Are our fees proportional to the values we provide? </li></ul></ul><ul><ul><li>How are we differentiated from our competitors? </li></ul></ul><ul><ul><li>What markets can we serve? </li></ul></ul><ul><ul><li>Do we commit enough resources to developing market intimacy? </li></ul></ul><ul><ul><li>How can we innovate better? </li></ul></ul><ul><ul><li>Where do we have the most pricing power? </li></ul></ul><ul><ul><li>What is our intellectual capital and how can it be further leveraged? </li></ul></ul><ul><ul><li>Do we Sell or do we Market ourselves? </li></ul></ul>