M&A activity is remaking the MSP competitive landscape, with new announcements made almost daily. MSPs ignore this ongoing M&A ‘mania’ at their own risk. Every MSP must evaluate all options and determine their preferred plan, whether it’s to buy, sell, merge, or stay the current course.
Let’s look at some of the pluses and minuses of for each option, factors to consider when evaluating the right approach, and leading drivers on valuations.
Not surprisingly, you need to determine your strategic end-game before evaluating which M&A option suits your MSP. If you don’t know where you want to go, it will be very hard to find the right path. Just to make thing more fun, there is often more than one way to get to your destination.
Here is a general overview of why different MSPs ultimately select one option over another:
- On the buy side, acquiring an MSP (or multiple providers) is no longer just about buying a client list. Today, acquisitions are focused more on quickly expanding your service portfolio and/or your geographic footprint.
- A merger with another MSP accomplishes many of the same net results as an acquisition. However, in mergers, there needs to be even more focus on bringing the right people and expertise together.
- Selling can seem like a simpler proposition – you get money for your company. But if you really care about your business, you need to ensure that you gain a strategic partner that can help achieve your vision. In addition, some MSP owners relish the opportunity to move from the top business role to more of a visionary and technical position, further underscoring the need for a right fit.
Advanced Services Driving M&A Activity
According to Kaseya’s most recent Global MSP Pricing Survey, high-growth MSPs are much more likely to offer a broader service portfolio, including advanced cloud and monitoring services such as:
- Monitoring their clients’ IT service levels
- Audit and Discovery
- Identity and Access Management
- Backup and Recovery
- Cloud Services
In fact, a whopping 70% are more likely to offer guaranteed IT service levels to their clients than lower-growth peers.
At first glance, acquisitions can seem the most expensive way to expand an MSP’s services portfolio. However, many MSPs calculate that, in the long run, it’s the lower-cost option once they consider several ‘hidden’ costs of developing new services from scratch. Creating the right service, choosing the best technology, training staff, pricing and marketing the service – all of these may go right the first time out the gate. However, much more likely, there will costly iterations before everything is working smoothly. And in that time, another MSP may have swooped in and taken the market from you.
A merger with a complementary partner may be the way to get the best of both worlds, by addressing the capital requirements for an acquisition, and by providing a speedier time-to-market than organic growth. Deciding which route to take depends, as always, on the business and market factors your individual MSP faces, such as the competitive landscape, capital flexibility, internal staff experience, etc.
So what’s an MSP Worth?
MSPs can be tough to value, as they come in all shapes and sizes, and the markets they serve undergo constant and dramatic change. That means that while metrics have merit, they are not a hard and fast way of determining a definitive value. Instead, the value “is heavily dependent on the individual company’s revenue, margins, service mix, geography, quality of consultants, and many other factors,” argues Mergertech, an investment bank in its MSP Performance & Valuation Report.
“As a general rule of thumb, the most highly valued MSPs do not have a single client that makes up more than 12% of revenue with the top ten clients accounting for less than 40% of revenue,” the firm concludes.
Here are other metrics that help determine the health and value of your MSP operation:
- Revenue per employee — $250,000 is an ideal number
- Rate of growth – positive growth is a must, but there are limits to how fast a labor-intensive business can expand.
- Percentage of revenue based on services – you want services to represent the vast majority of your income
- Ability to retain top employees – your staff is core to your value. Too much turnover shows risk to future health of the business.
The Multiplier Effect
Multipliers, whether a multiple of sales or profits, are used by many to set a price. EBITDA is often the preferred multiplier to use for valuations. For instance, some experts claim that MSPs with their own hosting infrastructure and guaranteed revenue can sell for 10x EBITDA, while smaller MSPs with no real infrastructure and a small portion of recurring revenue will be offered half that – or less.
But EBITDA doesn’t tell the whole story, of course. An MSP is as healthy as its service portfolio, with valuations tightly tied to recurring revenues growth. If more than half of your revenues are recurring, generally speaking, 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. Furthermore, the more that you are embedded into your clients’ business and perceived as a trusted advisor, versus just troubleshooting problems, the more value you have.
Looking for More?
Kaseya is hosting a special forum to help MSPs understand the new reality of MSP mergers and acquisitions. On May 2, 2016, Kaseya is holding a free half-day M&A Symposium – open to all MSPs – to help them understand how mergers and acquisitions impact MSPs throughout their lifecycle, and decide if they should cash out, expand through acquisition or merger, or stick to their guns.
- Why an M&A strategy is critical for MSPs of all sizes and at all stages of development
- Best practices for creating an M&A strategy and executing against it
- The different perspectives of buyers and sellers in M&A courtships
Review the agenda and reserve your spot (seating is limited) for this free event here.
*This blog was originally posted on MSPMentor.