How this CFO competes with PE’s deep pockets

David Carlino, CFO of CannonDesign, knows a thing or two about dealmaking.

Over the last two years and change, Carlino has guided the architecture and design firm through eight acquisitions. Through those deals, he’s helped the firm expand client offerings to include consulting services instead of strictly design work.

But the M&A landscape for architecture and engineering firms has also changed. “In the past two to three years, I’ll say probably more in the last two years for us, the amount of activity has gone crazy,” Carlino said.

In particular, “private equity is a big competitor of ours when it comes to acquisitions now. That [competition] wasn’t there five, 10 years ago,” Carlino told CFO Brew. “They were buying some engineering firms, but not so much architect firms.”

While CannonDesign probably can’t compete with PE on price, the firm has a strategy to set itself apart from those deep-pocketed buyers. The long and short of it is: CannonDesign can offer sellers some things that PE cannot, Carlino said.

Skin in the game. Equity is a key ingredient in the “secret sauce” of the deals Carlino puts together. It sweetens the deal, in particular with consulting-firm ownership that CannonDesign is courting, because “we’re able to say, you’re going to stay as an owner in our firm.”

“They may be a 25% owner of their firm, and come in at less than 1% of my firm because of the size of it, but they’re still an owner,” Carlino explained. “We sell this whole strategy—which is very different from the private equity world that we compete against—is you are an owner, still, in this franchise going forward, and there’s an upside as an investor.”

For CannonDesign’s last three transactions, it hasn’t used any debt—“we just did cash and some ownership,” Carlino said.

“What I’m able to spin on that is we’re privately held, so we do have a lot of profit-sharing opportunities, and we’re a profitable firm,” he said. “By default, what I’ll put in my presentation is what my stock value internally has grown over the last five years, what the distributions beyond a normal bonus have been over five years. So I’m showing [the seller] what the return on that initial cash or stock investment will be five years from now.”

PE funds busy. PE activity in the construction and engineering sector “hit an all-time high” in the first quarter with an estimated 501 deals, up 32% YoY, according to a PitchBook report released in June. Architecture firms are incentivized to consolidate due to “continued fragmentation,” growing operating costs, and moderating revenue growth, according to Baker Tilly in the same month.

“[PE] firms and large strategic acquirers are increasingly viewing architecture as an attractive platform investment opportunity, driving ownership discussions toward the scale necessary to compete effectively in the marketplace,” Baker Tilly principals Michael Milani and Dena Herbolich wrote.

Asking up front. As a strategic move, Carlino said he asks brokers straight out if the seller is considering PE in the selection process. Then he’ll level with them on what CannonDesign can, and can’t, offer.

“If it’s a dollar-for-dollar transaction, I probably can’t compete,” he said. PE firms “are going to come in at a little higher multiple than I am, and if that’s the reason they’re selling, they just want the biggest cash [offer] they can get, we’re probably not interested anyway because we’re trying to make sure I [have] partners coming on board and they’re actually owners with me.”

But cash only means so much with some of these firms. Some worry what a sale to PE means for the future of the company they built. CannonDesign doesn’t want to build it up a bit and “sell it tomorrow.”

The “emotional part” of CannonDesign’s offers, Carlino said, is that “you’re part of us, you’re an owner, you’re a partner. I’m not buying you because your EBITDA is strong. It’s all about the transition of how you make us bigger and better as we go forward.”