MSPs organizations are businesses, and like most businesses have goals. One of those is usually making money. The biggest way to cash in could be when you sell the whole company.
Getting your company ready to sell takes a tremendous amount of discipline – and this rigor is of benefit whether you ultimately sell or not.
Rick Murphy, CEO of Cogent Growth Partners which helps MSPs find acquisitions, says it is never too early to get your company ready to sell. “Most business owners don’t think about their exit plan until it’s too late to do anything about it, and they unknowingly miss all of the benefits that can come from having the plan in place from day one. While it might seem outlandish to be contemplating an exit while your business is young, professional investors know you don’t invest unless you understand how you are going to exit, and small business owners can benefit from this thinking,” Murphy argues.
“Most IT firms operate under the mistaken impression that liquidity only comes when one sells and retires. That is simply not the case. Liquidity can and should be coming from the business continuously, flowing more and ebbing occasionally over the life of the business, through to an eventual exit.“
Murphy continues, defining the exit strategy as “the blueprint for balancing ‘investment’ in organic growth, while maximizing day-to-day profitability, thus creating consistent liquidity and business value, every day.”
Philip Vorobeychik, Senior Associate at Insight Venture Partners has been on both the buying and selling side. Vorobeychik has a checklist for improving your company’s appeal:
- “Become fanatically customer centric
- Ensure customer loyalty is to the business (not you)
- Improve processes and improve again (and again)
- Improve your depth of talent and retention rates
- Improve your systems / know your business
- Exit unprofitable businesses and customers
- Hurt margins, EBITA, and cash flow (lowers valuation)”
On the other hand, there are danger signs you should look for when evaluating a potential acquisition target, including:
- “Misrepresentation of data (financial, etc.)
- Declining revenues
- Customer turnover
- Risk concentration (key employee/customer)
- Employee quality/morale”
Recently in San Diego, Kaseya kicked off its Executive Summit Program with the MSP M&A Symposium where both Murphy and Vorobeychik spoke. Gary Pica, president of consultancy TruMethods, was another of the luminaries addressing these issues.
Pica sees four main reasons an MSP may want to sell: they want more free time, money, faster growth, or a change of career. But few MSPs simply want to bail. Chances are they have poured their heart into the business and want a new owner to continue the best parts of their legacy. That means making sure that the acquiring company will take good care of the existing team and client base.
The right buyer can also give the seller options. You may want to work for the new owner, take a break and decompress, work somewhere else, or if the entrepreneurial bug is still there, start a new business, Pica argues.
Kambiz Aghill is managing partner for Redwood Capital Partners. To Aghill, the right deal is all about synergy. In general, a buyer is looking for a business that “controls a specialized resource that would be more valuable once combined with the acquirer firm’s resources.”
He sees three main types of such synergies.
“Horizontal mergers: Economies of scale, which reduces costs, or form increased market power, which increases profit margins and sales
Vertical integration: Controlling the chain of production much more completely
Functional integration: Exploiting the functional synergies across the firms”
And there are three potential economic benefits, including increased growth, better profit margins and decreasing costs as a percentage of sales.
Here is how Rick Murphy views the buying landscape, which is the constituency he represents.
Setting a Price
There are many factors that help determine what an MSP is worth. First, what are you willing to sell for, and what are you worth to the potential buyer? A lot of this is about fit. If the buyer is local and can tuck in your operation easily, you are worth more.
If you are in an adjacent business that is a natural fit, again your value rises.
At the same time, your value is also a measure of your success, and EBITDA tends to be the simplest and most used metric here. Pica believes that MSPs generally sell for 3X-10X EBITDA.
But EBITDA multiples are a far from a perfect measure. And this simple metric is where smaller MSPs may be heavily penalized. These entrepreneurial outfits tend to focus on innovation and growth, and invest in the future rather than simply skimming profits. And these MSPs, as investments, can be worth far more than a meager 5x EBITDA. In fact, there may be no EBITDA to speak of, yet the firm has amazing potential.
To get to the higher range, there are several things buyers look for. One key metric is the percentage of Monthly Recurring Revenue – and the higher the better.
At the core of MSPs are services, and here the value of this kind of solution provider rises as recurring revenues grow. Also of value are new services coming onboard that are gaining even more recurring-revenue-based customers. If more than half of your revenue is recurring, you stand in good stead.
The way you run your business also matters. Just as you want to automate client’s infrastructure and IT operations, you want your own businesses processes to be automated so you are poised and ready for growth. And the more that you advise customers, versus just troubleshoot problems, the more value you have.
Buyers also look for a diverse client base. If the majority of your revenue is in the hands of a small number of clients, your business looks risky.
One More Resource
To learn more about exit strategies, check out “Making Sense of MSP Merger and Acquisition Mania”, a blog by Kaseya SVP Miguel Lopez.