In addition to navigating an increasingly volatile economic environment in the short term, architecture, engineering, and environmental firms will confront four converging trends that will transform the AEC industry over the long term. The four trends that will reshape the business landscape for AE firms are:

1. Disruptive technologies

2. Firm consolidations

3. Recapitalizations and revaluations

4. Labor’s half-decade in the sun

In the next few years, the first of these AEC industry trends — disruptive technologies — will trigger a domino effect that will remake the AEC industry as we know it. In order to keep pace with the continuously evolving landscape in the AEC industry, it’s crucial for firm leaders to understand the driving forces of change and integrate them into their long-term strategic planning. 

AEC Industry Trend #1: Disruptive Technologies

Individual firms will continue to invest record amounts of treasure, time, and talent to harness the potential of artificial intelligence (AI), machine learning, digitization, predictive analytics, SaaS, and in-the-field robotics to improve enterprise-wide performance and profit.

Architecture, engineering, and environmental firms are deploying four distinct strategies — sometimes in parallel — to harness the power of disruptive technologies. They are internally developing proprietary products or services, partnering with technology companies, launching tech subsidiaries or ventures, and purchasing tech-enabled business models.

Most of these discrete firm initiatives will fail to reach market or, if they do, realize only marginal impact. (Pro tip: Before you invest yet another million dollars in the “digital triplet” idea from your next-generation leaders, get yourself a copy of Clayton Christensen’s The Innovator’s Dilemma.)

What will be the domino effect?

Over the next four years, however, the sum of these collective efforts — in concert with the introduction of external disruptive technologies by venture capital VC-backed groups and industry vendors — will forever alter the industry’s pricing, service, delivery, and operations models. Firms will either be disruptors or the disrupted. And that will have widespread ramifications, including on the following trends.

AEC Industry Trend #2: Firm Consolidations

The AEC industry will experience massive consolidation over the next four years. Morrissey Goodale is forecasting that about 3,100 firms — or close to 10% of the industry — will be absorbed by the end of 2026. Approximately 75% of the acquisitions will be of high-performing, high-value, differentiated firms. This forecast factors in both (a) rising interest rates and (b) a recession in or around 2023. This shakeout will be driven by a combination of industry fundamentals and a massive public-sector stimulus from the $1.2 trillion 2021 Infrastructure Investment and Jobs Act and the 2022 Inflation Reduction Act — the largest federal clean energy investment in U.S. history.

What will be the domino effect?

This accelerated consolidation will begin a steady decline after 2026 as firms choose to invest their capital in disruptive technologies that allow them to be more profitable, improve performance, and scale faster than acquisitions of non-tech-enabled AE and environmental services firms.

AEC Industry Trend #3: Recapitalizations and Revaluations

The speed at which the private equity model has been adopted by the industry’s largest design firms has been stunning, and private equity will continue to supplant employee ownership over the next four years. Ninety percent of the ENR Top 500 Design Firms choosing to sell or recapitalize are selecting a private-equity option when they do. By the end of 2026, better than one-third of the ENR Top 100 Design Firms will be backed by private equity.

Of the 3,100 firms that will sell over the next four years, 1,100 of them will be to private-equity investors or operating firms. As a result, M&A valuations will continue to increase through 2026. Upper-quartile M&A multiples will hover in and around the mid-teens on trailing 12 months EBITDA. Median multiples will linger just shy of 10x. Lower-quartile multiples will remain flat south of 5x.

What will be the domino effect?

Overall valuations will begin to decline after 2026 as strategic and portfolio acquirers focus more on disruptive technology investments rather than acquiring traditional AE and environmental consulting firms. Those AE firms that successfully integrate disruptive technologies into their businesses will see their values hold, if not increase. However, the bottom will fall out for the median and lower-quartile firms as buyer demand will disappear.

AEC Industry Trend #4: Labor’s Half-Decade in the Sun

Gone are the pre-pandemic days of annual raises of between 4% and 5%. With an overheated market for AE and environmental services, a wave of baby boomer retirements, and a more transient workforce, we see, in some cases, a step-function jump in labor costs of about 10% as firms compete for talent like never before.

Even if a recession occurs in 2023, it will be a hyper-competitive market for talent in our industry over the next half-decade. Morrissey Goodale forecasts annual labor cost increases of between 7% and 10%. Firms are going to continue to throw out long-standing compensation practices and pay scales in order to onboard and retain the talent needed to meet record demand for services. We expect that super-generous loyalty bonuses, immediate (knee-jerk?) counteroffers, more frequent base comp adjustments, more creative benefits, and infinite workplace flexibility will be the norm to keep talent in place.

Signing bonuses — at all levels — will be standard to bring talent on board. Labor cost increases will put tremendous pressures on the industry’s bottom line and will contribute to the demise of weaker players. From a compensation perspective, this will be an awesome four years to be a design or environmental firm employee.

What will be the domino effect?

Once disruptive technologies are mainstreamed, the balance of power will shift back to investors and management. When they tell you “technology is not about replacing people,” they are telling the truth — if by the truth they mean “technology is all about replacing people.”

How your AE firm responds to these industry trends will dictate whether you are among the disruptors or the disrupted. And the experts at Morrissey Goodale are here to help you successfully navigate these changes!

With our exclusive focus on the AE and environmental industry, Morrissey Goodale’s team of expert consultants has helped hundreds of clients transform and grow their businesses into high-level performers through strategic business planning, mergers and acquisition advisory, marketing and business development, executive search and human resources, leadership development, and business valuation and financial advisory services.  Contact us today to find out how Morrissey Goodale can help your firm profit from the domino effect that will reshape the AEC industry.

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