Ultimate Guide to Financial Management for Architecture Firms

8 min read

March 13, 2024

A survey of architecture firms from the American Institute of Architects has found that the top three concerns of industry leaders in 2024 are increasing their firm's revenue (30.3%), managing rising costs (21.8%), and negotiating appropriate project fees (20.1%).

Each of these challenges is a vital component of financial management. To be successful this year (and every year) architecture firms must generate enough revenue to cover costs by optimizing a firm's prices while prudently keeping costs as low as possible.

While financial management sounds simple enough in principle, it is a delicate balancing act. Successful financial management requires the careful development of a financial strategy, sound implementation, and close monitoring to ensure the financial health of an architecture firm.

The following financial management best practices can help ensure you have the right strategic pieces in place to support your firm's financial health and growth, despite the low demand that most architects are reporting and projecting for this year.

How to Manage Your Firm's Finances: Best Practices for Financial Management in Architecture Firms

Monitor the Shifting Economy and Industry

The financial strategy that worked for your firm last year might not be the same strategy that works this year. Shifts in the economy and within the industry will impact your business. For this reason, it is essential to keep a close watch on the economy and the architecture industry and adjust your financial strategy (and all of its parts) accordingly.

Read More: The Pros and Cons of Outsourced Accounting Services for Businesses

Inflation over the last few years has rapidly devalued the dollar, leading to higher-than-normal costs across the board. Additionally, the unstable economy and threat of a potential economic recession have created a climate where clients of architecture firms are less eager to take on large projects and big expenses. These challenges have slowed revenue growth and increased expenses, squeezing budgets to the point where every cent matters.

Develop a Budget and Use It

A budget provides a financial plan for your business, and operating without one will quickly lead to financial missteps, cash flow shortages, and irresponsible spending that could be the demise of your firm.

We recommend that architecture firms make three different budgets. The first should include reasonable and accurate projections of revenue and expenses for the upcoming year. This is the budget you should follow and work with throughout the year. You should also make a worst-case scenario budget and a best-case scenario budget. These hypothetical budgets require you to think carefully about strategies for handling financial challenges and plans for leveraging financial opportunities. These secondary, hypothetical budgets will help you form contingency plans for how your business will survive or thrive in the event unexpected cash shortages or windfalls occur.

You can also experiment with different budgeting strategies for businesses. For example, you could use zero-based budgeting which makes a new budget from scratch each year, or you could use the incremental budgeting method that increases costs and revenue based on a pre-determined rate of growth. Other popular budgeting methods include activity-based budgeting and value-based budgeting. Each method serves a slightly different purpose and can help your firm achieve slightly different financial goals.

Once you have made a budget, the budgeting process remains ongoing. You should revisit your budget (at least on a monthly basis) to evaluate your budgeted (forecasted) numbers and compare them with your firm's actual numbers. If any discrepancies (deficits or surpluses) exist, you should adjust your budget accordingly. This will help you stay on track with your financial plan throughout the year.

Read More: What Every Architecture Firm Needs To Know About Accounting

Read and Use Your Financial Reports

Your accounting system should be set up so that you receive a set of monthly financial reports. At a bare minimum, these reports should include a balance sheet, income state, and statement of cash flow. Learn to read and understand these reports. You should be using them to take a measure of your firm's financial health. Over time, you will be able to identify trends and early indicators of financial trouble in these reports and use the information to make better, data-driven leadership decisions.

Closely Monitor and Forecast Your Firm's Cash Flow

The majority (82%) of businesses fail because of cash flow challenges. Cash flow refers to the money flowing into and out of a business at any given time. A cash flow statement shows a snapshot of cash flow over a set period of time, while a cash flow forecast uses historical financial data to project a business's future cash flow.

Cash statements and cash flow forecasts are vital to the financial health of your firm. Knowing your cash position at all times and being aware of upcoming shortages will help you implement strategies for avoiding cash flow shortages to keep your firm operational.

Management Accounting: Identify and Track the Most Important Metrics for Your Firm

In addition to reading your financial reports, you should also use your financial data (and other operational data) to track the key performance indicators (KPIs) that are vital to your firm's financial health, strategy, and goals. Some of the most important metrics for architecture firms include:

• Gross profit
• Utilization rate
• Net labor multiplier
• Total labor vs. billable labor
• Net profit after expenses
• Break-even point
• Net revenue per employee
• Customer acquisition costs
• Customer lifetime value

These metrics are some of the most essential for architecture firms. Depending on your firm's goals and unique financial strategy, additional metrics might also be important to track and monitor. To manage your firm successfully, you should be calculating and tracking these metrics every time you look at your financial statements. Ideally, you will have an accounting software system available that allows you to create a customized dashboard that provides these metrics in real-time whenever you need.

The Only KPI Scorecard Designed Exclusively for Architecture Firms: The AEC Scorecard™️

6 KPIs Every Partner Should Be Tracking

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Choose the Right Accounting Software

Selecting the right accounting software for your architecture firm is vital to establishing a sound and efficient bookkeeping and accounting system that will be able to streamline and automate processes while supporting your greater financial management strategy.

Most architecture firms benefit from the implementation and use of either QuickBooks Online (QBO) or Sage Intacct. Both options offer a variety of third-party integrations, accommodate outsourced accounting partners, and can be customized to meet an accounting firm's back-office needs. Typically, QBO is recommended for smaller firms, while Sage Intacct is ideal for fast-growing, mid-market businesses.

👉 What's the cost comparison between an in-house vs. outsourced accounting team? This video here sums it up.

Focus on Retention and Perfectly Timed Hires

Hiring is currently one of the biggest challenges in the architecture industry. The increased demand for skilled employees and inflation have also driven up the cost of employees. This means that your firm's hiring and retention strategies are becoming increasingly important. Your firm must maintain enough staff to operate and provide high-quality services to your clients in a timely fashion. However, it can't afford to have extra employees on the payroll or to foot the exorbitant cost of high turnover rates.

It is essential to have an accurate understanding of the load each of your employees can reasonably handle, the time it takes to bring a new employee completely up to speed in your firm, your retention rate, and the rate at which your firm is growing. With this information, you can have a clearer understanding of the hiring, onboarding, and training schedule you must maintain in order to maintain your firm's production capacity and steadily increase it at the same rate as your firm's growth.

If you are dealing with high employee turnover, conduct surveys to gain a clearer understanding of why your employees are leaving. Additionally, take steps to improve employee engagement, workplace culture, and fulfillment to increase retention, reduce turnover costs, and boost productivity.

Read More: How Much Should My Architecture Firm Pay for Controller Services?

Profit Planning: Analyze New Investments

With firms facing challenges with inflation, hiring, retention, growing employee costs, and revenue growth, the smart and prudent use of profits is vital. Your firm needs to carefully analyze the potential ROI of any new investments, new costs, and existing costs before deciding where to invest profits. Ensure that you're spending each dollar wisely and that you have a good (ROI-based) justification for every dollar that leaves the firm.

Take Your Firm's Financial Management to the Next Level With Outsourced Accounting for Architecture Firms

Outsourced accounting for architecture firms allows you to simultaneously cut costs, improve financial management, and streamline your financial strategy. An outsourced partner eliminates the need for a high-cost, in-house financial department, but offers the team, tools, and technology to build a better back office for your business. Outsourced accounting services can manage the day-to-day bookkeeping and accounting tasks that are essential to maintaining accurate, reliable, and timely financial reports while also helping you learn to become a better financial strategist and leader in your firm with management accounting and management reporting.