Mergers and acquisitions, or M&A for short, is a great way to enter the MSP business or to increase your customer base. On the other hand, you might want to leave the business if you're tired of it or if you feel like there's nothing more you want to achieve. In this article, we will overview how to get ready for mergers and acquisitions, and where you can find a good deal.
Key Reasons to Consider M&As
If you are still not sure why you might need to buy or sell an MSP, here are the main reasons to do so:
Financial growth. First and foremost, perhaps you are motivated by purely financial reasons. If you are selling, you want some cash to live your life or create another business; if you are buying, you want to increase profits.
Scaling your business. When buying another MSP, you will get access to their customer base, their marketing, and their sales channels.
Further reading How to Build a Successful MSP Business
Changing market landscape. If you are running a small yet successful and efficient MSP, you may lack size in the eyes of your bigger prospects. To change that, you can buy another MSP so as to be able to compete for the bigger fish.
Cut out the competition. Sometimes your competition is growing too fast, so that in order to prevent financial losses or to increase your growth, you need to buy an ambitious competitor.
Prevent bankruptcy. It might turn out that things are not going as expected and you don't get enough clients to cover the expenses or to provide sustainable growth. In such cases, it is a good practice to find a buyer.
Exit the business. There are several additional reasons to look for a buyer for your company. Some people start an MSP business to grow the customer base and then sell it in a couple of years to start all over again. Others feel tired after a number of years in managed IT and just want to have some rest. And lastly, it might turn out that running an MSP is not what you want to do these days. These are all good reasons to sell your business.
How to Get Ready for M&As
Preparing to acquire another business and preparing to sell your own are two different procedures. So, we will overview them separately.
However, first we will define the most negotiable questions in M&A – how to set the price for the deal.
How to Establish a Price for an MSP
The first question that arises for anyone willing to buy or sell for the first time is how to establish the price of the business. Typically, you break down your revenue sources, add multipliers to them and add that up. The sources and multipliers are:
- MRR contracts are worth 1.0-1.5 annual revenue
- Projects are worth 0.5-0.7 of the annual revenue
- Break/fix is worth 0.2-0.5 of annual revenue. Bear in mind that some MSPs doing M&A don’t count the break/fix contracts, as they are not recurring, so that the clients can easily leave you once the M&A is done.
- Hardware and software resale are worth 0.1 of the gross margin.
On the other hand, smaller MSPs are usually bought on the basis of their EBITDA. This is multiplied by 3-5, depending on what you agree upon and the quality of the selling party’s contracts.
When You Acquire
- Define your needs. To find yourself a good fit, you need to define what exactly you are looking for: you want to enter another geographical area but the same vertical as you currently service; you want to diversify your customer base with customers from another vertical; or you are looking to reduce the growing competition, to name just a few reasons.
- First-look analysis. Once you start the search, you will most probably have several opportunities and you will need to choose the best one. Get an overview of the candidates’ services, solutions stacks, and existing customer base. If it turns out that none of the given opportunities are a good fit for you, don't buy the second-best, but rather continue the search. Otherwise, you may end up wasting your money on a customer base that you can’t or don't want to support.
- Structure the deal. Typically, when buying an MSP, you want to pay less upfront and more earned-out to decrease your long-term risk. Also, there are two models of acquiring a company: stock and asset. To determine the right model, hire a tax lawyer.
- Perform an audit. You will need to make sure that the financial side of the MSP that you are buying has no underlying issues.
When You Are Acquired
- Get your documents in order. Your first need is to prepare for a financial audit. You should be ready to support your price expectations with clear documentation. Prepare research of your recent activities – marketing, operational activities, financial health, etc. – to evaluate your company correctly
- Check the quality of your processes. The end price of the deal depends on the quality of your recurring contracts and deals. So, if you have unstructured processes, messy SLAs and MSA, your buyer might think that your clients are not happy with you, which will be a reason to negotiate the price or even cancel the deal.
- Hire experts. You should either agree to a team of experts from the buyer’s side or hire yourself a tax lawyer and M&A consultant to be sure that everything is fair.
Two Ways of Finding a Deal
So, you are ready to sell or buy a managed IT business, but where should you start looking for a deal? Typically, there are two options:
- Direct knowledge. You do not work in isolation and you typically know and meet your competition. For both a buy and a sell, you can go to your direct competitor to discuss a possible deal.
- In MSP peer groups. Peer groups, either closed such as an HTG peer group, or open to everyone, like the r/MSP subreddit, are a great source of knowledge and advice. They are, in fact, so big nowadays that you can meet MSPs from any vertical and geographical area there. So it's a good place to search.
Some clients might leave when they hear about an M&A. Another segment might decline to continue working with you if you raise prices. So you would need to work out a communication strategy with those clients. It’s a good idea to be introduced by the owner of the MSP you've just bought or merged with to discuss the effect that the deal will have on them.
On the other hand, when you sell your MSP, take a well-earned vacation. It's the best time to ease your mind.
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