Value-Based Design Fees: A New Approach to Compensation
If the conventional system of setting fees is to be replaced by something better, then both owners and architects will need to benefit and will have to agree on the method.
No doubt about it: The past few years have been some of the toughest ever for design firms. Layoffs of 15 percent to 25 percent are common. Salaries have been frozen, if not reduced, and many architects are facing shortened work weeks. As for bonuses, they are as rare as hen’s teeth. It’s been particularly rough on emerging professionals, those with limited experience who cannot find enough work to fulfill their licensing requirements.
On top of it all, firms are facing increasingly stiff competition and are responding by cutting fees to the bone to get new work. This tactic will only compromise profitability going forward, making recovery more difficult in the long run. As for a possible turnaround, there are some signs of a thaw beginning, but it may take another year or longer before the market returns to normal. Normal, of course, is relative. These days, just being able to cash a steady paycheck is a sign of success for most architects.
Cause for Hope
As gloomy as all this sounds, there is cause for hope. The recession has been harsh, but it has also taught us some good lessons — lessons that might not have been learned otherwise. First and foremost, in the world of design, it’s clear that business skills do matter and that they are a useful and necessary part of running a value-added practice. In good times or bad, it’s important to pay attention to marketing, management, and finance: These are just as necessary for success as creativity.
No firm can thrive in the long-term unless it can bring work in the door and produce it profitably. This means keeping a very close eye on expenses and making maximum use of available talent (which is the biggest expense of all).
Some firms have taken advantage of the down times to re-assess their staffing profile around the necessary skill sets, to invest in new technology, and to seek better and more effective ways of producing work. These are the firms that will emerge from the recession with a clearer sense of who they are, what they stand for, and what they can offer clients. Of course, this kind of continual self-improvement should not be dependent on the economy — it should take place whether or not the office is busy — but a recession always puts things in stark relief, making it easier to make the hard decisions.
Clients are thinking the same way. Their lives have also been deeply affected by the recession, and they are carefully considering the cost/benefit ratio of the services they buy. This creates a real opportunity for smart firms — those that choose to set themselves apart by offering better design, better technology, and more personalized service. Traditionally, the A/E/C industry is viewed as extremely inefficient. Projects frequently fail to meet budget or schedule, vast amounts of materials are wasted, and cost overruns and delays due to incomplete or poorly coordinated documents are common. In fact, A/E/C is the only major industry that has measured negative productivity over the past 40 years. If nothing else, the recession may force us to clean up our act once and for all.
Stop Selling Hours?
It’s also pretty clear that the traditional methods of compensation for design services are due for an overhaul. Whether billing on a fixed-fee or time-and-materials basis, design firms are essentially selling hours, which creates a subtle incentive to be inefficient, particularly since overtime is common and frequently uncompensated. Staff habitually put more time on a job than is budgeted, and while it may not cost anything in the strictest financial sense (since firms generally pay a standard weekly salary regardless of the time worked), there is a very real opportunity cost. Those excess hours can and should be used for things that are more productive and profitable.
Time-based billing is just that: It places a value on the clock, not the outcome. But design can and should be seen as a value-adding proposition. By designing better buildings, architects can create spaces that are healthier, more productive, more efficient, and less costly to operate and maintain. This puts real money in the client’s pocket. A simple example will make the point.
Suppose that by clever design an architect can produce a parking garage capable of accommodating 5 percent more vehicles in the same footprint. The additional capacity will produce more revenue, which flows right to the client’s bottom line. That’s value-adding design. The same argument holds for buildings that save owners money in terms of capital cost, maintenance, or operations. Even something as subtle as the placement of the glazing in a wall section can increase a building’s rentable area and thereby increase cash flow.
These small increments of added value, if properly measured and explained to the client, can be used to support design fees that are pegged to outcomes rather than cost. Once clients get into the habit of thinking of design in value-added terms, there will always be enough money to do the job right because good design literally pays for itself.
In making the case that their services should be measured in value rather than cost, architects must fully embrace the relevant metrics. This in no way undercuts or mitigates aesthetic considerations — it’s simply an added benefit. (Think of a great looking car that also gets a top mileage rating.) Fortunately, new technologies such as building information modeling make it easier to quantify design value, and this should be used to full advantage whenever discussing fees.
If the conventional system of setting fees is to be replaced by something better, then both owners and architects will need to benefit and will have to agree on the approach. The issue should always be approached on a win-win basis. One way of conceptualizing the discussion is shown in Figure 1.
If the value-added approach is used, then the base fee can be lower and the upside can be higher. Smart clients will understand that it’s in their best economic interest for the design team to hit as many of the value targets as possible. One of the biggest advantages of this new approach is that it invites a full dialogue between the owner and the architect at the very beginning of the job, so each party fully understands what really matters most to the project. This alignment of interests creates both synergy and leverage, which makes for a richer design process and a better outcome for all concerned.
If converting to value-based fees all at once seems like too big a leap, it’s possible to tackle this incrementally. Start with a base fee, which can be slightly lower than normal, and then identify specific value targets that mean most to the client. Adding these incentives to the contract will provide motivation and focus for both parties. The client should not resist paying “extra” since the value targets, when met, will actually add revenue or profit to the bottom line. (Using the car analogy again, would someone agree to pay and additional $1,000 for a car that gets an extra five miles per gallon?)
The essential point is that you can design a fee structure in the same sense that you can design a building. Under the old paradigm, fees are based on cost and time, not design value, which is exactly backwards. Establish the design value first, then cost and time will take care of themselves. Why else would anyone want to hire your firm?
Scott Simpson, FAIA is a Senior Fellow in the Design Futures Council and a regular contributor to DesignIntelligence.