Key Highlights
- Understand the key factors influencing the valuation of IT Managed Service Providers (MSPs).
- Learn about different types of buyers and their acquisition criteria.
- Discover strategies to prepare your MSP for a successful sale.
- Improve your MSP’s valuation by focusing on key performance indicators, management team, earnings reliability, and growth potential.
- Seek guidance from experienced professionals like brokers and M&A advisors.
Are you Ready to Sell your Managed Service Provider (MSP) Business?
The best way to navigate the sale of any business is preparation, planning and execution. For IT Managed Services Businesses, it is just as critical to time the overall market, your key performance indicators, and when you have the right management team in place to attract the best fit buyers. This blog goes into trends within mergers and acquisitions for IT Managed Services businesses and key factors that lead to a more successful business sale.
Mergers and Acquisitions Trends for the Small and Mid-Size Technology Industry
Succession Plan for an IT Managed Services Business
For many technology companies, the business was built over a decade, with any earnings going to growth, R&D, and capability rather than shareholder distributions. The company that exists today, is not the one on a white board 5, 10 or 15 years ago. Shareholder buyouts are common for IT businesses, navigating them can be complex both from a financial and personal point of view. By planning for a founder or major shareholders exit, all parties win. The seller gets cashed out for the business and investment made, and the team can adequately plan for the reduction in key management roles.
Our number one piece of advice for IT Managed Services owners when it comes to succession planning is to play by the rules of the operating agreement, and if you do not have one, get one in place ASAP! With or without an operating agreement in place, the Exit Equity team can help you learn the fair market value of the business and guide the difficult conversations of succession planning.
Private Equity Roll up for IT Managed Services Businesses
The managed services provider sector has undergone plenty of mergers and acquisitions (M&A) in recent years, whether its for technology, market share, or earnings. As technology advances, and access to key recurring customers changes, MSPs are important for giving businesses the tech solutions they need. You would be surprised at the level of niche buyers, family funds, and private equity buyers that focus on key geographic regions, technologies, and market focus in the IT M&A world.
How to Value an IT Managed Services Business (MSP)
Determining the fair market value of your IT services company is very important when you want to sell. There are different ways to value a business, but many people use comparable MSP valuation multiples. These multiples help to measure the value of a business based on other similar sized MSPs sold.
For small businesses like MSPs, the common multiples to look at include revenue, EBITDA (which stands for Earnings Before Interest, Taxes, Depreciation, and Amortization), and SDE (Seller’s Discretionary Earnings). Each multiple has unique details and fits different situations based on the size, profit, and growth of the business. Depending on the type of buyer, they will use a different valuation methodology and will be concerned about a different data set when setting a purchase price or fact checking during due diligence in the company sale.
Key Metrics to Improve my IT Managed Services Valuation
To make your MSP more appealing to potential buyers and boost its value, focus on important metrics that show financial health and opportunity for growth. Buyers want MSPs that have strong finances, a loyal customer and recurring revenue base, and smooth operations.
By focusing on these key indicators, you can make your MSP a sought-after asset and get the best price and deal terms when selling it. Remember, a well-run and profitable MSP, with strong recurring revenue, low customer churn, and low Customer Acquisition Cost (CAC), is more likely to see strong, competitive offers.
Annual Recurring Revenue / Monthly Recurring Revenue?
Annual Recurring Revenue (ARR) and Monthly Recurring Revenue (MRR) are the most crucial metrics for MSPs. ARR represents the annualized value of all recurring revenue contracts, providing a clear picture of predictable income. MRR, on the other hand, breaks down recurring revenue on a monthly basis (and ability to meet operational expenses), offering a more granular view of short-term performance. These key stats, along with customer churn rate, gives a clear understanding to buyers on the profit capability of the business.
Higher ARR and MRR values generally indicate a more stable and predictable revenue stream, more stable earnings, and make for a more competitive environment for buyers, and more attractive for lenders. It indicates a level of maturity and organization to buyer that the business has long tenured customers that want to stick with the business year after year.
Lifetime Value / Customer Acquisition Costs
Customer Lifetime Value (CLTV) shows the total money earned from one customer during the time they stay with your MSP. In contrast, Customer Acquisition Cost (CAC) is the money spent to obtain a new customer.
A high CLTV compared to CAC means your strategies for gaining and keeping customers are working well. It shows you are making good money from your customers and getting a positive return on your marketing spend.
Customer Churn and Growth
Customer churn rate shows the percentage of customers who stop using your services. High churn rates can signal worries about customer satisfaction, service quality, or pricing, as well as low switching costs to another provider. On the other hand, a low churn rate is a great sign of customer loyalty and retention.
When you have a strong customer growth rate along with a low churn rate, it points to a healthy and growing customer base. This suggests that your MSP business is sustainable and positioned for growth.
EBITDA Multiple – Right Sizing My Business verse Comparable Transactions in my Industry
The EBITDA multiple is the most common way to value a business, whether its an IT business or blue collar business. It looks at how much profit a company makes before interest, taxes, depreciation, and amortization (EBITDA) compared to its overall market value.
A skilled valuation analyst “Normalizes” your business, which means adjusting the financial statements so they show what the business could really earn when you account for one time (outlier) expenses and personal owner expenses embedded in the business (e.g. personal car, golf club membership, paying family members above market rate, etc.). This process helps a buyer understand how the business could be run in a maximum efficiency environment.
By looking at similar businesses sold within your industry, you can find common valuation multiples and trends that can lead to a sales price on the low end and what produces a company sale on the high end.
How to Sell an IT Managed Services Business – Prep
Preparing to sell your company is time and energy consuming, extra effort for business owners on top of running day to day operations. First steps should include: clean up the books, standardize operations, and have key leadership in place. The first step is to make sure that an independent 3rd party can easily understand your books and preferably without much commentary! You should also have clear, transparent, and easy to understand standard operating procedures, a culture to always improve service delivery, and a clean track record in terms of any legal disputes with customers, vendors, and contractors. Clean, crisp, and reliable operations will create a more dynamic, competitive environment when you bring buyers to the table.
Identifying red flags early and fixing them before you go to market will remove risks for potential buyers. This can help you get a better price for your IT services business. A well-organized MSP business with a strong history will attract great offers.
Trends in the IT Managed Services Business – Plan for a Sale
When you plan for a sale of your MSP, knowing the different types of buyers helps plan for the prep and position the company for the best potential sale. Each buyer has their own reasons for buying, how long they plan to invest, and how they look at the deal. Whether its a strategic buyer that wants your IP, a competitor that wants your customer base, or a financial buyer that is purchasing the company’s cash flow, you need to know the most likely buyer today and what type of buyer you want to sell to in the future.
Things like how much you want to be involved after the sale, how well the buyer fits with your business (and employees), and how much money buyers can afford cash at closing or earned out, or equity rolled over into the entity, will influence how you find buyers for an IT Managed Services Business.
Financial Buyers – Buying a Job and How they Finance an Acquisition
Financial buyers care about more than just the money when looking at an IT managed services business. They see it as both an investment and a chance for a well paying job. It’s important to know how they think about buying the company, as well as the their access to capital for the purchase and what kind of profit they need to fund their lifestyle. They are most concerned with strength of the business to endure long term, make profit, and align with their skill set. They typically utilize a Small Business Association (SBA) loan with a qualified lender, and potentially a seller’s note. From the buyer’s point of view, this helps motivate the seller for a health transition and success future company operations.
Competitors – Replacement Value and Low Ball Bids
Competitors may want to buy your MSP. They could be looking to grow their customer base, reduce their competition, or get access to your technology and skills. Most offer a low price based on how much it costs to copy your business, trying to take advantage of your situation.
To get the highest possible price, it’s important to know your MSP’s fair market value. Taking part in competitive bids can also help you achieve the maximum price. Always try to increase your leverage when negotiating with a competitor, and be extraordinarily careful disclosing confidential information. Loose lips sink ships!
Strategic Buyers – How to Attract the Best Buyer with the Most Cash
Strategic buyers see your company for growth opportunities. They aim to expand their services, reach more customers, or enter new areas by buying other businesses. They often pay more for companies that fit their long-term plans. They often pay all cash at closing, but can include performance earn outs or hold backs based on company risk.
To get better offers, it’s important to show how your MSP adds value to the buyer’s goals. You should explain your MSP’s unique strengths and its potential for growth. This will help highlight its worth. By focusing on these aspects, you may get a higher valuation and better terms.
Succession Plan for IT Managed Services Business
Selling to a business partner or a family member might look easy, but it needs careful planning. You should find a fair market value, and structure the deal such that the buyer has skin in the game. There is no such thing as a free lunch! Its in the seller’s best interest to have the partner/family member motivated, experienced, and skilled to run the business with success in mind – for their own wealth manager, for the health and safety and employees, and long term customer satisfaction. .
When selling to a family member, professional help from lawyers and accountants can help make the transition smooth and beneficial to all parties, whether its tax or estate planning, or protecting the seller from future risks if the business does not operate as planned.
Who are the Key Advisors to Help me Sell my IT Managed Service Provider (MSP) Company? What does each role do?
Engage a team of experts including M&A advisors, accountants, lawyers, and IT specialists. M&A advisors guide the sale process, accountants handle financial matters, and lawyers manage legal aspects for a successful MSP company sale. Exit Equity knows how to value a IT Managed Services Business, knows the market for buyers, how to structure the sale, and bring in great experts to guide owners in all facets of the company sale.
Prepare Your MSP Business for a Sale
In conclusion, getting ready to sell your IT Managed Services Business needs careful planning and knowledge of how to value your business. To boost your business’s worth, pay attention to important points like steady income, keeping customers, and EBITDA multiple. If you aim for financial buyers, competitors, or strategic buyers, it is important to set up your business well. Think about how key employees can affect its value and focus on growth to draw in potential buyers. By using these helpful tips, you can prepare your MSP business for a good sale and raise its value. For more personalized help with your company sale, talk to our experts today.
Frequently Asked Questions
When does a buyer use SDE or EBITDA for a valuation multiple?
For service providers, there are two main ways to value a business. They usually use SDE or EBITDA. Normally,
EBITDA is typically the choice for businesses that make more than $2 million in revenue. On the other hand, smaller businesses, which earn less than $2 million, often use SDE to find their fair market value.
How do key employees or a middle management layer influence fair market value of my company?
Key employees or middle management can have a big effect on your company’s valuation. They can improve how well the company operates, and ensure the company is not entirely reliant upon the owners. Their skills and leadership are key in drawing in buyers and increasing the company’s value.
What influence does the current lending interest rate have on a business valuation? How does it help a seller and buyer?
The current lending interest rate plays a crucial role in business valuation. It affects the cost of capital, impacting the company’s worth. For sellers, lower rates increase valuation, attracting buyers with cheaper financing options. Conversely, buyers benefit from higher rates as they may negotiate a lower price.
How does an SBA lender look at SDE when considering maximum loan amount?
SBA lenders look at Seller’s Discretionary Earnings (SDE) to decide how much money they can lend. They review SDE to see how much profit the business makes and how easily it can pay back the loan. This assessment affects the loan offer that buyers receive. It is critical that the add-backs on the profit and loss statement are easily justifiable and clear to lenders, otherwise they will discount the SDE, lower the company valuation, and lower the available loan amount.
How important is growth when considering a company sale for an MSP IT business?
Showing growth potential is critical when thinking about selling a company, especially for an MSP IT business. Buyers look for a steady rise in key metrics, like recurring revenue. An MSP business that has opportunity grow market share, revenue, and net income is more likely to get a higher price when it goes through the sales process. A declining business will have a deeply discounted sales price and terms.
How do I assemble my key advisor team to improve the odds of a great company sale?
Step 1 is to meet with a business broker and M&A professional who can bring in a wide array of resources to advocate for your business interests, and owner personal financial interests in the event of a company sale. It’s easy, just contact us at Exit Equity any time to start a confidential conversation on your options for a company sale.
