In 2015, I made the surprising discovery that there was no easy-to-use, powerful PSA tool available for MSPs. I searched and searched, yet I couldn’t find the low-complexity, low-cost solution I was looking for. So, I decided to take matter into my own hands.
After more than 13 years of being an MSP, we sold our business in 2016 in order to launch Computicate PSA, an easy-to-implement PSA platform that MSPs can use to unleash their full potential. This blog represents my personal narrative about the journey of selling my MSP. While I don’t claim to be a merger and acquisition (M&A) expert, I did learn a big deal throughout the selling of our company, and I’d like to now share these learnings with you.
Why Should MSPs Think About M&A?
What we learned is that no matter what you plan for—acquisition, selling the company, etc.—you just want to run a (more) profitable business.
Essentially, it’s all about the metrics. And the metrics you have to offer at any point in time are all defined by the choices you make today.
I discovered that the metrics that were important for the successful sale of my MSP were the same metrics that helped me run my daily MSP business. Also, I found that the ad-hoc availability of metrics from the past years turned out to be extremely valuable in going through the process smoothly.
Maybe you’re thinking about selling your MSP because you’re ready for retirement. Or you want to achieve growth and stabilize your business by investigating a merger. Maybe you got in contact with someone who says they are willing to pay a huge multiplier for your business. Or you're just done with your business after years of hard work.
There can be several reasons to sell your MSP (or buy one, of course). Regardless what the reason is, you need to make sure you have a solid answer to the question, “why do you want to sell your business” before you start meeting with potential buyers. Any answer is a good answer, as long as you have one that you can speak out loud without hesitation. Buyers want to know this, and they’ll be looking for reasons why you’re selling that are not being told.
What Buyers Will Look For
In general, potential buyers will look at roughly four metrics when looking for acquisition targets:
- Profitability and free cash flow – How long is it going to take to get our investment back?
- Business fit – Can we merge this organization into ours?
- Continuity – If we buy this company and the current owner leaves at some point, will clients and staff stay?
- Scalability – If we upsell this company’s ‘Service X’ to our existing clients, can we scale the operation? Is it well organized?
The Information That Buyers Will Need
During my time at my MSP business, I was used to selling our services personally. I was able to give confidence to potential buyers that we would take care of their IT needs. This worked great, but I discovered that variables like my personal role, the competence and loyalty of my staff and our standing in the market were of no importance in the first phases of selling the MSP.
Potential buyers will initially receive an anonymous teaser with some broad cold metrics about your business. If they are interested, NDA's will be signed and potential buyers will receive an Information Memorandum containing more metrics like:
- Revenue information (% recurring, % non-recurring, % hardware/software, % growth YoY, EBITDA, etc.)
- Operational KPIs (revenue per user, customer retention, average customer value, best and least performing products & services, payroll data, occupancy rate, revenue and profit predictions for the coming years, etc.)
- Growth rates (growth margins, % growth and churn in contract value, % growth and churn in number of clients, etc.)
The Metrics That Drive Deals
When looking at the buying price, there are some specific metrics that have an above average impact on the price a buyer is willing to pay:
- % recurring revenue
- How many contracts are in place
- Dilution in your services
As for recurring revenue, the rule is simple: the more, the better. Recurring revenue gives confidence to potential buyers and will normally lower their risk. Also, the impact of recurring revenue gets even better when you have contracts in place. One year at least, 3 years ideally, 5 years is great.
I know that a lot of MSPs don't work with contracts today, since we are moving into a “pay as you go” world. It’s tempting not to bother an onboarded and paying customer with a contract discussion. However, not having contracts in place for managed services can create questions with not only the buyer but also with the financier of the deal. Questions such as:
- Why are these clients not willing to commit for multiple years? What does this say about the value of your services, and are you making enough impact with clients to be of strategic value?
- How solid- and future-proof are the revenue predictions you gave us, is there a solid continuity? Will these clients walk away when the owner is gone?
Not having contracts doesn't have to be a showstopper for the deal, but it will likely have a negative impact on the selling price (because there is more risk) and the percent of the selling price that will be part of an earn-out agreement.
As for the service dilution, this is about the services that you have in your catalog versus what has been sold to clients. If you have 50 clients, and 40 of them have some kind of ‘specialty’ in their SLA, it can have impact on the deal value. The more 'specialties' you have out there, the more operational risk for the buyer.
Basically, there are two types of buyers that you can come across:
- Strategic – These buyers want to add services to their portfolio that they can easily upsell to their existing clients, and they’ll want to become active in targeting new client verticals.
- Buy and build – These buyers want to understand your business really well and essentially buy your clients. They will likely try to integrate your operations, service level agreements (SLAs) and pricing.
In our journey, we came across both types of buyers and we chose to move forward with a strategic buyer. The main reasons were that these buyers will want to add your services to their portfolio, so you and your staff will be a valuable addition instead of a cost center ready to get a cut.
Also, when a strategic buyer is a larger organization, they will probably be able to scale and upsell your services quite quickly. This results in a better ROI outlook—and thus room for a higher prices—and they will likely keep your staff because they’re buying specific knowledge.
On the other side, buy and build buyers know your business very well, and in most cases they just want to buy your clients. Once your business is sold, they will try to integrate your business into their operation, harmonize SLAs and services, and optimize staffing and processes.
The ‘Official’ Part
The due diligence process is usually quite specific, so I won’t fully cover it in this blog. Normally, a Due Diligence Scope is agreed upon, and a (digital) data room will be created and filled with metrics and documents about your business. In our case, it was more than 150.
These will be investigated by the due diligence team, and they will send you questions... lots of questions. Since this official part usually has a fixed timeframe, it’s really important to have your metrics ready to further analyses and deliver to the due diligence team. In our case, we got over 50 specific questions that needed to be answered and substantiated in a two-week timeframe.
Not having answers ready can result in a poor due diligence outcome, impacting confidence of the buyer and/or financer. Make sure you are prepared for this phase by blocking your agenda and having your facts and metrics ready.
Key Takeaways for M&A Success
The full trajectory between meeting with an M&A firm and the actual deal closing can take a full year, so it’s important prepare yourself and all who are involved.
Collect Your Metrics
As I mentioned, you need to get your metrics ready long before you start. Being able to deliver KPIs and financial metrics instantly is not only important to create trust with the buyer, but also with their due diligence accountant and the buyer’s financier. Prepare to deliver any metric, even on short notice.
Establish What Kind of Deal You Want
Knowing what kind of deal you would like will allow you to make clear choices throughout this process. Equally, it will let you easily identify a bad deal.
Be Prepared to Walk Away
It’s OK to walk away if you think the buyer’s terms are not reasonable. If the deal collapses, there will be another buyer. A bad deal is a bad deal, and you have a great business to offer.
Increase Your Deal Value
Longer contracts equal a higher multiplier. I’d suggest you start putting your clients on contracts if you’re thinking of selling any time soon.
Keep Calm and In Control
The acquisition process can be nerve-wrecking. You will take a lot of steps with your potential buyer and move the process forward. At the same time, each step the deal could collapse, right up until the moment the deal is signed. Help yourself feel in control by making the right choices today that will get you the metrics you need.
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