Special report: New rules for 2013

As a new year begins in a post fiscal-cliff world, we lay out what we see as four new rules for the industry that have major implications for every firm principal and manager.

01/18/2013


1. Optimism is OK again—and this year, well-founded. For many firms in our industry, the past four years have been bleak, a little like the second book of the Lord of the Rings trilogy: dark, dreary, full of despair, and seemingly endless.  As an industry, we thought the good times would return in 2010. Then when they didn’t, we were sure 2011 would be better. Then when that was pretty much the same as the prior years, we believed the corner would be turned in 2012. And while some firms had very good—indeed record—years in 2012, for most it was déjà vu all over again. Well, 2013 will be different. This year—despite all of the fiscal cliff worries and posturing—the mechanical, electrical, plumbing (MEP), fire protection, and commissioning sector overall will see growth in overall revenues and earnings. Firms that did well in 2012 typically had a good position in the energy and/or power sectors. Many MEP and commissioning firms in these sectors had record sales, revenues, and earnings last year. This year, we expect the love to spread to other sectors. In its 2013 Dodge Construction Outlook, McGraw-Hill Construction predicts construction starts will increase 6% this year. Sectors that are expected to see particularly strong growth include commercial buildings (12%), manufacturing buildings (8%), and multifamily housing (16%). So, if you’re seeing more and better opportunities than you have in the recent past, then take a deep breath, smile, and allow yourself to feel optimistic. It’s OK.

2. More projects will be done through public-private partnerships (P3s), design-build, and alternative project delivery. The fiscal realities facing federal, state, and local governments will cause these entities to seek private investment in the development and rehabilitation of buildings and infrastructure. Slowly but surely, state-by-state, municipality-by-municipality, regulations across the United States will change to look more like those in Canada, Europe, and Australia and facilitate private sector participation (investment, maintenance, and operations) in traditionally “public-sector” projects. A number of states, including Virginia, California, Florida, Texas, Ohio, and Illinois, have passed various laws allowing for greater flexibility in private sector participation in infrastructure and buildings projects. And according to a recent study by McGraw-Hill Construction, some 40% of government decision makers surveyed expected more public-private partnership projects in the future. The implications of this trend for MEP and commissioning engineers are immense. Instead of directly marketing government agencies as in the past, firms will have to direct their business development activities more and more to contractors. Management will have to put in place more sophisticated risk management protocols and systems to manage the greater risks associated with these types of projects. And culturally, firms will have to become more adept at identifying and managing risk though more advanced training, development, and hiring programs. This new rule will require MEP and commissioning teams to make investments and changes to survive.

3. We’re all competitors now. Prior to the great recession, the client world for most MEP and commissioning firms was neatly divided into two groups: owners and architects. Sure, architects were always the more problematic of two groups. They are typically slower to pay (they continue to be the big reason why many MEP firms have average collection periods in excess of 100 days—one of our profession’s saddest and dirtiest little secrets) and harder to manage. However, we had to love them as they typically comprised between 25% and 75% of the MEP industry’s annual revenues. However, the recession changed all that. With the domestic construction market cratering (construction spending dropped from $1 trillion in 2008 to $800 million in 2011), architects ran into a buzz saw with gross revenues for American Institute of Architect (AIA) member firms declining some 40% over the same period, from $44 billion to $26 billion (The Business of Architecture, AIA, 2012). In response to this decline in their core design business, many architecture firms looked to augment their offerings to owners with other “adjacent” services including MEP and commissioning. Consider that one-third of AIA member firms report that they are multidisciplinary (with architecture as the lead discipline), whereas a decade ago, just over a quarter reported themselves as such. It doesn’t help our profession that as our traditional clientele have continued to morph into competitors, many of our own have shown a disappointing tendency to feed the forces of commoditization. Through the recession, a common refrain we heard from clients was that there was always one MEP firm in every competitive situation that was willing to price a proposal at an impossibly low fee “just to keep the doors open.” This created a rapid downward spiral in fees across our industry from 2008 through 2012. With such excess production capacity in the market (more MEP design firms than there is design work), there is no guarantee that we will see prices increase in the aggregate anytime soon; such is the legacy of the flight to the cheapest solution. The implication for MEP firms is that we will need to continue to do “more with less” in a hyper-competitive environment.

4. Size matters. The inexorable consolidation of the industry through mergers will continue in 2013, driven by a new set of competitive drivers and rules. The number of design industry mergers in 2012 was on pace with the tally from the prior year, with deals happening about one every two days. Notable MEP and commissioning mergers that occurred at the tail end of 2012 included:

· The merger of full-service, multidiscipline consulting engineering and planning firm Cameron Engineering & Associates (Woodbury, N.Y.) with Laszlo Bodak Engineer (New York City), a provider of HVAC, electrical, sanitary, fire protection, and site engineering design services for new and rehabilitation projects across numerous client/market sectors

· Global engineering, architecture, design-build, surveying, and geospatial solutions firm Merrick & Company’s (Aurora, Colo.) merger with leading commissioning and sustainability consulting firm Energy Ace (Decatur, Ga.).  

What’s driving this new rule? Owners are looking for more “one-stop-shopping” solutions. They want to have faith that in a new public-private partnership and design build environment, their construction team can handle their needs with no worries. Smaller firms tend to be a risker proposition and will be hurt in this environment. Larger firms will do better—hence the continued buying spree by the largest firms in the industry. One the flipside, smaller, privately held firms are finding it harder and harder to make their employee ownership models work. Demographically, younger engineers are less likely to want to buy into their firms than prior generations were. Plus, given the debt that many Generation X and Millennials have compared with prior generations, they are less able to become owners in their firms. So watch out for bigger, full-service firms becoming the norm rather than the exception.


Morrissey GoodaleMick Morrissey is managing principal of Morrissey Goodale LLC, a management consulting and research firm based in Newton, Mass., with offices in Phoenix and Denver, that serves the AEC industry exclusively. An engineer by training, Morrissey has assisted numerous MEP firms in the areas of strategy development and implementation, leadership development and transition, technical and professional talent recruitment, ownership transition, and mergers and acquisitions.



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