The current “new reality”—a state impacted by the pandemic, the resulting economic downturn, and remote-work practices in A/E firms—is also affecting progress in design firms to achieve internal ownership transitions. We find that design (architecture, engineering, interior design, landscape, planning) firms have slowed down their planned internal ownership transitions. There are three primary reasons for this.
Reason 1: Distractions
The first reason is that people who are leading and managing design firms are distracted with other matters. In our published research on the impact of the coronavirus on design firms, design firm leaders report that manage their firm virtually while working from home equates to long, tiring workdays.
Besides running the business and projects, they are putting considerable effort into finding and securing new projects to replace the work that is being done now. While some are sustaining adequate work volume now, the greater concern is ‘filling the pipeline’ for the next 6-12 months. Firm leaders report that there is intense competition for the projects that are being awarded.
In addition, firms that operate in high-cost metropolitan areas also found that, once the shelter-at-home restrictions were put in place, a number of staff dispersed geographically to smaller cities and towns. Reasons cited were, they had family roots in these smaller communities, and grandparents and extended family could help them with child care. These ‘geographic refugees’ also viewed smaller communities to be safer than large urban areas against large outbreaks of the disease. For leaders of design firms, the question is whether to allow staff to stay in these other locations in the future. What impact will that have on the firm’s ability to do work? On its culture?
In this environment, implementing an ownership transition plan gets sidelined.
Reason 2: Hesitancy by the ‘Buyers’
Potential new owners who, before the “new reality,” may have been keen to become an owner in their design firm now have second thoughts. For one, there is uncertainty about how their firm will fare in an environment where there seems to be less work. Entire industries (hospitality, retail, aviation) have collapsed, and some are not expected to return for 3-4 years. Design firms that served these sectors face a serious drop in their work volume. “Can our firm survive this?” is a question asked by the potential new owner.
This is compounded by the fact that many design firm leaders have done a poor job of preparing a new generation for ownership. Prospective partners or shareholders might not have understood their opportunities even in good times. Now is a difficult time frame to introduce the topic and to make firm ownership seem attractive.
Reason 3: Lowered Value of the Company
The conventional methodology for arriving at a value at which the ownership shares (or partnership interests) are bought and sold is based on financials for the past 3-5 years. While in 2018-19 most firms had strong financial performance, in 2020 this is not necessarily the case. And based on research, our firm conducted in August 2020 (‘Financial Impact of Working from Home,’ part of our New Realities Survey Series) nearly one-quarter of the 90 firms that participated anticipate that in 2020 their revenues will decline by up to 50%.
With such an outlook, a current owner might not be willing to sell ownership shares at a discount, based on lowered financial performance in 2020. And a potential new owner might not want to buy at a price based on a higher valuation as of the end of 2019. “Why not wait until 2022 when the valuation will reflect lowered revenues and earnings in 2020 and 2021?”
Conclusions and Recommendations
In an uncertain environment with a hard-to-predict future state for design firms, it is not surprising that there is a pull-back from what is considered a risky move. Looking back just ten years during the Global Economic Crisis, design firms which had been in the transition process—owners selling down their ownership interests to next-generation leaders—simply halted their transitions for a few years. The same phenomenon is happening now.
If you are a current owner of a design firm who is ‘timing out’ due to age, interest, or energy, you need to answer the question of whether you can wait to sell down after the economy rebounds; or are you willing to take less now for the sale of your ownership interest.
If you are a potential new owner of a design firm, you need to answer the question of whether you’re willing to invest in the firm now, believing that in the long haul, it will rebound and even thrive under your leadership.
We recommend that firm owners of any age start the process of educating their next-gen leaders and staff about ownership and develop plans now for the transition. If you need advice or expertise, get in touch with us, and we can share how we might work with your firm.