MSPs looking to sell their businesses face a variety of challenges in finding the right buyer and the right valuation.
That’s the word from Ramsey Sahyoun, head of mergers and acquisitions for Evergreen Services Group, a San Francisco-based group of independently operated companies built through MSP acquisitions.
Sahyoun Wednesday told a group of MSPs attending The Channel Company’s NexGen 2019 conference, held this week in Anaheim, Calif., that Evergreen has already acquired 14 MSPs, and has signed letters of intent to acquire six additional MSPs by year-end.
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Sahyoun said there were three categories of buyers interested in MSPs.
The first is the strategic MSP buyer, typically a competitor or a large company looking for a presence in the potential acquiree’s region. “They don’t necessarily have people dealing with the acquisition processes, and so the deal-making may be slower,” he said.
The second category is the private equity buyer which raises capital and identifies opportunities, Sahyoun said. “These teams are moving fast. … They can be very aggressive with their acquisitions,” he said.
Private equity buyers typically want to sell their acquisitions within three to five years, Sahyoun said. “They’re well funded, and can get the deal done,” he said.
The third category is what Sahyoun termed the “search funds,” which are entrepreneurs looking to buy a business who provides a letter of intent to make an acquisition at the same time as it is raising capital. “Deals take longer. … They have to raise the capital to get the deal done,” he said.
Sahyoun cautioned that the search funds are less likely than others to actually close a deal because they are typically raising capital while discussing a potential acquisition.
When looking at how to value an MSP, the four key items in the valuations are EBITDA (earnings before interest, tax, depreciation and amortization), the amount of recurring revenue, the customer retention rate, and the company’s revenue growth, Sahyoun said.
The customer retention rate is a very important factor, and is looked at over three-year, four-year, and five-year periods, he said. Ideally, the revenue retention rate should be at least 100 percent on a per-customer basis, which indicates that customers are spending at least the same today as in prior years, he said.
There are other factors which come into play in varying degrees including geographical location in relation to the market, the quality of the seller’s team, the trustworthiness of the seller, certain operations metrics, the ability to do further mergers or acquisition if the seller is a platform company, and customer concentration, Sahyoun said.
For instance, if an MSP depends on a single customer for a large part of its revenue, that can be a potential issue for the buyer, he said.
There is no real good place where MSPs can get their valuation, Sahyoun said. His company uses its own 16-question list to begin the acquisition process, but every purchaser has its own method, he said.
“It’s going to be an estimate,” he said. “It’s going to be crude. … Our 16 questions won’t cover everything. But it will give MSPs a place to start.”
Evergreen Services Group goes through a set process before sending a letter of intent to make an acquisition, Sahyoun said.
This starts with a phone call or informal meeting to give both sides a chance to learn about each other and determine if there is mutual interest in looking at an acquisition, followed by the potential acquiree offering historical financial information and possibly a redacted customer data file to assess revenue predictability, he said.
That will be followed by a more detailed Q&A covering business and financial issues along with a high-level discussion on valuation, Sahyoun said. After that, there will be a long in-person meeting to discuss follow-up information, followed by the letter of intent and negotiations on valuation, which can take a couple weeks, he said.
Once the letter of intent is signed, the buyer will bring in a third party company to audit financials, and another to interview customers about the selling company, followed by a meeting with the seller’s management team, Sahyoun said.
“It’s important to keep management in the loop,” he said. “It builds trust.”
Oli Thordarson, CEO of Alvaka Networks, an Irvine, Calif.-based MSP, said that there is a lot of merger and acquisition interest in the market.
“It’s a good time to be an MSP, and it’s a good time to be an MSP if you’re established and have good customers and good retention like Sahyoun said, and you’ve got growth going on and you’ve got profitability,” Thordarson told CRN. “Yeah, it’s a good time to be an MSP if you’re looking to sell the business.”
Thordarson said has done one acquisition, and is currently looking at an equity event in the next three to five years for a spinout from Alvaka. “Not the whole company, but for a narrow, niche-oriented managed service that we currently have now that’s doing pretty well,” he said.
Thordarson said he has over the years seen a lot of what Sahyoun talked about, although the term “search funds” was new to him.
“I betcha I get a couple emails a week from somebody that falls into that category of, ‘I’m a CEO looking to buy a company,'” he said. “But I also get the private equity buyers and the MSP buyers. But it’s generally just these emails. I’m on a list. But every once in a while I do get directed phone calls where someone is specifically looking for us.”