Here’s What MSPs Should Know Before Accepting Private Equity, Selling Their Business

… high: High market fragmentation (which means consolidation opportunity) and the MSPs’ recurring revenue nature, i.e., predictability, are two key criteria for areas PEs like to invest in. The market is also relatively “young,” with the first exits of PE investments happening as we speak, as they approach their five-year hold period. 

The key reasons for this space still being fragmented are a) it is still a young industry and b) most MSPs were founded by technical people, with limited sales and managerial background, which has impacted their ability or interest to grow organically. Most MSPs are focused on small businesses, and while the effort to win a new customer remains the same, the annual revenues a new MSP customer generates are relatively low when compared, for instance, with the VAR or systems integration business.

CP: It’s a seller’s market, forcing private-equity groups to get more creative as money continues to pour into the channel. What does this look like for the rest of 2022? Beyond? How can MSPs navigate this?

CK: We’ve already seen an increase in M&A activity throughout 2021, and a hot start in 2022. As the economies rebound even more from the pandemic, I believe this will accelerate for a period until the most attractive candidates have been acquired. Then, there will be a slow down in a couple years. While the cadence of M&A may subside, I believe the valuations will continue to hold strong due to a remaining imbalance of supply and demand.

As I mentioned before, focus on specialization and profitability. Make your business a more attractive and valuable opportunity for acquisitive MSP platform companies. Secondly, make your business more visible to those seeking to acquire MSPs. Attend industry events, participate in industry forums and social conversations, and engage more with your vendor partners. Also, introduce a PR strategy that includes sharing notable news about your business on the wire.

When you are ready for an exit, engage with a good M&A lawyer and investment banker. You may shudder at the cost, but it is worth it.

CA: ​​The level of activity in the MSP space will continue to be high for years to come, given the expected high level in supply (the number of MSPs is in the thousands) and demand (both money and the number of PEs interested in MSPs is growing). However, it is not clear if we will continue to see the same high valuations for platforms and some add-ons. An important test will be the exit or recap of some of the early MSP consolidation plays, which we anticipate this year. 

Will the original PEs be able to sell those businesses at the level they expect, as some are predicting? Hyper valuations proved to be unsustainable in the past. Recent valuations in the MSP space remind many of the “irrational exuberance” of this time period. Are multiple in the mid- and high-teens justifiable and defendable? 

To build a cohesive business out of many smaller parts, there is a lot of work and structural changes needed. What is the impact and reaction from customers and employees as small, entrepreneur-led MSPs become part of a larger, regional or national enterprise? Generally, there are not a lot of synergies between MSPs, like cross-selling, which would support higher valuations: MSPs have similar offers and their SMB customers do not have large IT budgets nor needs. But many fundamental business factors point to a continued strong M&A market: stickiness and predictability, and the fact that more small businesses recognize the mission-critical nature of IT services.