Preparing Your MSP for a Transaction
Most owners of Managed Service Providers, at some point, will consider selling all or part of their company. Whether the transaction is prompted by a desire to retire, pursue other career objectives, or simply take advantage of a robust market for MSP acquisitions, there are some basic preparations that owners can take to help drive as successful an outcome as possible. Like applying a fresh coat of paint or undertaking a bathroom remodel before putting a home on the market, it is helpful for owners to invest in and understand the critical areas highlighted below to maximize enterprise value during a transaction.
- Track Billing Clarity and Orderly Contracts – Not all revenue is valued equally for MSPs and MSSPs, as different types of revenue can be contracted and stable with higher margins, and others one-time with lower margins. To wring out the highest purchase price from prospective investors and buyers, management should be able to identify, on a customer-by-customer basis, revenue attribution across different categories. Determining how much revenue comes from customers with contracted services and hosting agreements, resold software subscriptions, one-time consulting and/or implementation services revenue, and resold hardware revenue is critical. For the contracted revenue, it is key to understand the duration of the contracts for each customer and have a waterfall highlighting the known revenue that is to be recognized monthly into the future for those customers.
- Understand Gross Margin by Revenue Type – Many MSPs are asked to be a jack-of-all-trades for their customers. Not only are they providing the core IT services that help their customers succeed daily, they are often sourcing hardware, performing one-off projects and implementations, and providing cloud hosting. Tracking employees’ time (and costs) across projects and customers will provide visibility into how profitable each line of business and customer are for the MSP/MSSP. Buyers look to understand gross margins by product type to understand where a company is operating efficiently or where there may be low-hanging fruit to make improvements.
- Report Revenue by Industry – There isn’t a right or wrong answer whether it is best for an IT Services company to specialize and focus on clients in one or a few industries or take a more generalist approach. For companies that specialize, it enables them to really understand/diagnose the pain points commonly seen and provide expertise and solutions. However, that may limit the company’s addressable market as they’re only targeting those companies. For those that don’t specialize, they can target customers in any industry, but they may struggle to resonate with customers in highly specialized industries. Regardless, tracking revenue by industry will give a buyer a sense for where you’re succeeding and potentially help drive sales and marketing initiatives post-close to continue growing the company after it closes.
- Eliminate or Track Non-Business Expenses – It is common for a founder-owned business to have some expenses that likely would not carry forward after a sale of the business. Family members on payroll who may not be working full time, automobile leases, or one-time expenses incurred to invest in the company’s future like costs to migrate to an RMM platform are all considered add-backs or adjustments to EBITDA. Being able to identify and defend these enables you to identify the actual operating profitability of the business more accurately, which in turn lets buyers get more aggressive about their bids.
- Transition Customer and Vendor Relationships – One of the biggest issues buyers face is with owners who are the primary point person for key clients or vendors. In the event the owner is looking to completely step out of the business, not integrating other employees into the management of those accounts can cause some awkward fumbles, at best, or an outright loss of the key customer/vendor post-close, at worst. Building a service-focused culture with teammates you can trust to take care of your customers is core and beginning that transition ahead of a transaction is critical.
- Document Processes – As critical as it is to have financial reporting that tracks the first five items, documenting processes may be the most important item that can drive the most value for owners. Strong documentation of how you onboard and serve customers, perform sales and marketing, invoice customers and close the monthly financials, respond to tickets and triage issues, and essentially complete all core business tasks gives a buyer/investor confidence that the business is scalable and well-run. In an industry where turnover is often unavoidable, even for the best companies, documentation helps mitigate that risk, providing manuals and guidance for best practices to ensure the company can continue to support its customers, keeping them happy and paying their invoices!
The other item is building a great transaction team and ensuring you have a world-class process in place to solicit competitive bids and close the transaction on fair-market legal terms. If you have any questions about the five items above, or what running a world-class process entails, please reach out to Chris Weingartner, Managing Director at Founders Advisors focused on helping IT Services companies understand their options for transitions, transactions and other opportunities in the capital markets.