In this episode, Paul from Knight Corporate Finance discusses the firm’s approach to advising technology companies on mergers and acquisitions, funding, and exit planning. He highlights the importance of understanding business objectives and the dynamics of the current market. Paul provides advice for both buyers and sellers, focusing on factors like business size, customer profile, and funding readiness. Additionally, he talks about the state of the market, the impact of interest rates, and offers tips for companies preparing for transactions. The episode also introduces Knight’s online scorecard tool for assessing transaction readiness.
00:00 Introduction and Welcome
00:11 Knight Corporate Finance Overview
01:33 Understanding the Buy-Sell Dynamics
03:28 Best Practices for Buyers
05:43 Funding Insights and Minimum Requirements
12:41 Market State and Trends
18:34 Valuation Factors and Key Drivers
24:25 Transaction Readiness Scorecard
27:18 Final Thoughts and Advice
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Connect with Paul Billingham on LinkedIn by clicking here – https://www.linkedin.com/in/paul-billingham-5a89591/
Connect with Daniel Welling on LinkedIn by clicking here – https://www.linkedin.com/in/daniel-welling-54659715/
Connect with Adam Morris on LinkedIn by clicking here – linkedin.com/in/adamcmorris
Visit The MSP Finance Team website, simply click here – https://www.mspfinanceteam.com/
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Transcript:
Dan: So Paul, great to have you with us. Perhaps you could kick us off just with a little bit of how well, how Knight approached the market and then perhaps a little bit about the market itself and what it’s up to at the moment.
Paul: Yes, so Knight Corporate Finance, we’re a boutique advisor that help companies within the technology sector consider strategy, M& A, funding and exit planning. And yeah, our approach is to really get to understand the business before we fully engage with them, get to understand what their objectives are, what it is they want to achieve. And then we work with our team of 12 people to ensure we focus on the right, right solution for them.
Dan: And this would be buying and selling.
Paul: Yeah we predominantly a sell side advisor. So most of our clients are either looking to exit or looking for funding and that, and we work to find them the best options for that. We do buy side, but it’s limited really to probably private equity who are looking to invest in the sector and we’ll help support them on that. What we won’t do is find targets for consolidators in the sector because then we’d be conflicted. Yeah, we are, yeah, we know lots of the buyers, lots of consolidators out there, and we can’t really favour one over the other. Our interest is finding the right, either source of funding or the right transaction for our clients.
Paul: And that means, you know, you, you’re talking to lots of funders and lots of. The industry consolidators to try and get the best price, best value for them.
Dan: Right. I see. And so first of all, if I’m if I’m looking to buy though I should be talking to you because you’re going to know. people looking to sell. Although you may not be working for me, I should have a relationship with you.
Paul: Yeah, absolutely. We are in regular contact with the buyers that around the industry. As you know, there’s been lots of consolidation, lots of transactions over the last, well, we’ve, Knight has been going. For 16 years almost now, we’re in our 16th year. We’ve completed almost 200 transactions.
Paul: I think we’ve, today we, there’s a deal happening right now, actually, it should complete, would take us, I think, to 197 in our history. But there’s lots of transactions happening and our job, you know, one of our, what we do very well is understand what the buyers in the market are looking for at any one time because they, a lot of them are active, but they’re not always active at the same time sometimes. A bar will be going through a refinance process and they’re focused on that rather than actually doing any deals. Sometimes they’ve maybe undertaken several transactions in a short period of time and therefore want to bed them in before looking at more. So, you know, one of our jobs really is to understand who’s looking for what at any one time.
Paul: And so, yeah, but if anyone is interested in acquiring, you know, we’re happy to have a call with them, understand what they’re looking for, and hopefully that will help one of our clients then when we Take them to market.
Dan: Okay. So, I want to talk a little bit about the sort of state of the market as well, but would really like to just dig into a little bit about this this sort of buy or set seller dynamic. And often when we talk about this, but before we’re talking about both sides by talking about one side, because then it Tells you what the other side is therefore needs to be.
Dan: So, from a from a if I’m a buyer I’m coming to you. I’m obviously naturally interested in who. You may be able to introduce me to and is there a is there a best practice guidance for how I should approach you and other corporate brokers that might have deals available to help improve my, my odds of you considering us for a purchase?
Paul: Yeah. I mean, I think the first thing is make sure that you’re really clear what you want to buy you know under you know in terms of size of business product profile customer profile Timing so I think that’s really important. So really knowing what you’re looking for because we do have people that contact us and they say they’re interested in acquisitions and you ask them some Questions and they don’t really know.
Paul: They just want, they just think they should be buying something. So being really clear and decisive on what you want to acquire is important. And then the second thing having the resources in place in, in that business to undertake a transaction because these resource intensive, you know, most of the large consolidators in the market will have an M and a person that leads those deals.
Paul: They’re supported by a wider board. And often they’re investors, but they have an M and a touch point in the business. And then I think the final thing is. Again, is knowing what funding you’ve got available. We often get approached by people that want to do acquisitions and you ask them, well, you know, what funding have you got available and they sometimes are a bit quiet.
Paul: And you know, if we’re obviously when we’re acting for a seller, one of the things we’ll ask is, various buyers who are putting offers in is, you know, have you got your funding ready? What’s your funding process? Because if they have to go through a funding process in parallel to doing a transaction, that makes the transaction, you know, harder to complete because you’ve got effectively two transactions going on at the same time.
Paul: Whereas again, the regular consolidators out there. Already have funding in place, you know, they’ll have to get a sign off on the transaction and the due diligence But they’ve got the principle of funding in place And again, that’s important and if someone wants to understand more about that funding, you know, we can always help them so, you know, we’ve i’ve been introduced to someone today actually who Wants to understand how they get funding before they then move on to looking at M& A.
Paul: So we can always help them with that.
Dan: Okay.
Adam: just quickly on the funding, actually, Paul and indeed we could have a whole episode about funding in and of itself, but realistically, what is the sort of minimum entry point from seeking funding? What are you looking at? Oh, well, I guess minimum and maximum really
Paul: yeah, I mean, well, there’s probably no maximum to be fair in this industry, you know, there’s some huge funding facilities available to those large, you know, tens of millions EBITDA consolidators out there. I think the, as a minimum, we used to say a million pounds of funding because if you are below a million, you know, you’re probably gonna be having to talk to your local bank, high Street Bank, rather than any of the challenger banks.
Paul: But I’d probably say now in this market, you probably need to be raising 2 million to make it worthwhile. And at 2 million you, you know, as long as you’ve got then the EBITDA to back that up. And for 2 million you’d need EBITDA of probably nearly a million. You know, you would then. You’d be talking to not just high street banks, but the challenger banks out there that are very open for funding and looking and like this sector in particular, they’re like the customer profile.
Paul: They like the fact that it’s. business critical solutions, recurring revenues, et cetera. So I think really a minimum is to raise funding. If you’re going to raise it externally, not from existing investors or existing shareholders is probably 2 million pounds.
Adam: interesting.
Dan: And just to dig in on that affordability ratio that you suggested there. So like two, two times EBITDA in effect. Is that two times the combined EBITDA of the proposed transaction if it needed a veto or is that like your starting EBITDA?
Paul: No, it’s too, I mean, there’s certain challenger banks will go push above. You know, push up to three times. Some even go to four times, but at the lower levels, it’s probably near a three as a maximum. Yeah. They would, they do allow you to combine the EBITDA from the targets as well, because obviously that’s what the combined group will look like.
Paul: So if you’re a business at half a million EBITDA and you’re looking to acquire another 250 million EBITDA, you know, combine that 750 times three, you could probably raise 2 million.
Paul: And sometimes funders. in that situation will say, well, we’ll let you take a million and a half on day one. And then maybe another half a million to follow once you sort of consolidate the businesses and integrate them and demonstrate that is the combined EBITDA. So there’s also some flexibility as well.
Dan: So that then could inform the likely deal structure that the buyer might then offer the seller as well. If they can affect, align the two together.
Paul: Yeah, absolutely. I mean, I think most deals in this sector Involve an element of either an earn out or deferred consideration anyway And so that just you know that and the funding could match that as well
Dan: Yeah. Okay. Makes it elegant in terms of rather than having to take extra out of the combined business for to make those deferred payments. So, okay. And so, the obvious question I think a lot of our listeners will be asking is But I’m nowhere near half a million of EBITDA maybe I’m at 100, 000 or 200, 000.
Dan: What, where do I go to raise money to buy to buy another 100 or 250 of EBITDA?
Paul: It’s tough at the lower end of the market especially with obviously interest rates rising to where they’re at now and they’re probably going to stay around this level for You know foreseeable future. So the best place to go is, you know, going back to old fashioned friends and family Maybe get a private investor in you could talk to your local bank You and then there are the online people like funding circle online sort of banks that sometimes, you know, we’ll offer funding on that basis, but it is harder at that lower level.
Paul: It is hard. And you know, you’re better off. Definitely. You’re in a much stronger position once you’re above a half a million EBITDA.
Adam: And is that down to the. The admin overhead of pulling the deal together or risk or a bit of both.
Paul: Yeah. For a bank it’s, you know, banks and any institutions really see scale and size as an important factor in terms of their risk and. The smaller a business is, if you imagine you’re a, an MSP with maybe 200, 000 EBITDA, you’ve probably got quite high customer concentration. You know, it’s a big risk for a bank then to lend money over a three or five year period. You know, there’s not much room for error if the, if a large customer leaves. So it is about the risk profile, but it is also as well about the admin costs of running a process for the bank. And, you know, for anyone else, you know, these are quite rigorous processes, even at the lower end of funding. So, you know, that’s why the banks tend to set a minimum level.
Dan: And there’s a, there’s an interesting intersection here as we perhaps drift into the other side of the of the transaction. And that’s the if I’m selling 250 of EBITDA at this point, now I’m between maturity of the transaction. And scale of buyer as well, because I’m of interest to those ones that are stretching up to, to buy a couple of hundred but are perhaps having a patchwork quilt, their funding.
Dan: And therefore the deal structure is gonna be more, more aligned to meet their the frailty of their funding rather than the, perhaps the strength of the target. But equally. I’m probably too small on my own to be of interest to the one that’s just got a big bag of cash and money’s no object, but now you’ve got to be a really strong target to be of interest to us because you’re too small.
Paul: Yeah. Well, I think there’s always interest in businesses. You know, there’s a various levels of buyers out in the market. You know, you’ve got the large consolidators that are probably won’t acquire something less than a million or too many EBITDA in some cases, but there’s still a whole tier of buyers out there that, that will be buying businesses sub half a million EBITDA.
Paul: It still adds to their own EBITDA. Often there’s Some expertise they want to acquire as well, or a particular customer profile or revenue profile, you know, we’ve seen over the last few years, lots of consolidation between telecom, traditionally you see in telecoms, resellers, and it providers and MSPs, you know, and they’re often not the type of deals that are happening at the, at that lower level where you know, and you could also look at it in a different type of transaction structure Maybe look at merging it rather than an acquisition.
Paul: So two businesses together that are both around two 50, but, you know, combined EBITDA is 500. And then you’ve got some synergies on top, probably take it up a bit more. So there’s also those types of transactions that are open at the lower end as well.
Dan: Okay. Yeah. Really interesting. And we’ve kind of drifted into state of the market there. So, maybe you could expand on that just a little bit in terms of you know, what’s is it healthy and effective interest rate levels.
Paul: Yeah, there’s no, so we’ve been on a, we up until early last year, you know, there was a, and certainly as June, even during COVID and as we’re coming out of COVID, there was an M and a boom in the sector. And you know, and that was down to the fact that, you know, institution investors, you know, were probably pulling out of certain sectors that were hammered by COVID and focusing on those sectors that benefited from COVID and clearly ICT is a sector that benefits very well, you know, from COVID. So. We had a long period of lots of transactions, cheap debt and lots of consolidated out in the market. And then obviously early last year, interest rates start, well, we’re already starting to go up, but starting to hit where they’re at now. And the cost of capital suddenly went up and that meant that every transaction was more expensive.
Paul: You know, if you’re paying six times for something, unless you can make it grow, you’re really only covering your interest charges. from the EBITDA. So that suddenly meant that something had to give. Now we, what we found was that valuations as such didn’t tick down too much. Valuations held quite well, but there was a lot more buyers were being a lot more selective in what they were buying.
Paul: So they wanted businesses that could grow. They wanted businesses that Had some sort of USP rather than just sort of, you know, usual vanilla solutions and that for that meant the volumes were down. So last year volumes were definitely down in the market. Towards the turn of the end of the year, I think a lot more certainty came back in the market.
Paul: I think everyone knew that interest rates were going to stay where they are for the foreseeable future. They weren’t, won’t come down by a lot. They’re probably not going to go up anymore. I think we all know now that we’re going to get a new government within the next month. And we know who it will be. And also we pretty confident now we’ve avoided a recession. So with those three things, there’s a lot of certainty around them. So that brings confidence back into the market. People can make decisions based on that certainty. And so we’re now seeing a lot more activity. So I think Megabyte who were industry analysts, so they said that In Q1 of this year, M& A in the sector was down by about 25%, but I think you’ll now but private equity investment in the sector was up and what we’ll now see is as we move through the quarters, that private equity investment going indirectly into sector will then translate into transactions.
Paul: And certainly from our experience we’ve, if we complete this transaction today that we’re working on that before in June alone, now we normally do about 15 deals a year. So four in June sort of demonstrates that actually we’re getting some momentum back into the market now. And there’s also a number of secondary buyouts happening with the consolidators or tertiary buyouts that will drive volume as well.
Paul: So we expect to be busy now for the rest of the year and activity to, to continue to grow back to the levels it was perhaps at the back end of 22 or in 22.
Adam: And does the activity or lack of activity directly impact valuation? And,
Paul: Well, it can do, as I said, I think good businesses were well prepared. have a decent size and had you know Some level of USP or some strategic value to the buyer We’re still going for the valuations In 23 that they were probably receiving in 22 What we were seeing was rather valuations Falling for those that weren’t perfect.
Paul: We were actually seeing that there was no market for them and the buyers were just Are either interested in those strategic acquisitions or were bothering at all And I think that’s what will change now in the market I think moving forwards again that buyers will be looking at the all options not just those strategic ones And I think that was because of that uncertainty around interest rates the cost of capital uncertainty around recession and the like
Adam: and so we’ll increased with increased confidence and more activity will that then drive prices higher?
Paul: It’s funny. I think Unified comms, resellers, MSPs, unless they’ve got some real strategic angle, there is a natural ceiling to what someone will pay for them. And the reason for that is that it’s a highly fragmented market. There are, you know, there are thousands of MSPs, you know, you see resellers. And so if a buyer starts getting pushed up into double digit multiples, They might decide actually we’ll wait for the next one to come along because there’s always businesses being marketed by people like us. So there is a natural ceiling on some of these businesses. But if you’ve got a strategic angle and it’s a type of deal that doesn’t come along very often then that’s what drives values up.
Adam: Or you’ve got a new round of funding looming, which you need to sort if you don’t transact, they’re no interesting. Yeah,
Dan: So,
Paul: You know, there’s quite a narrow window actually between a minimum and a maximum that will pay in less, you know, and our job is. an advisor is to make sure you get the maximum in the range that you give someone and if possible above that range.
Paul: By finding those USPs by finding the strategic angle and the buyer that will recognize that strategic angle
Adam: Perhaps you could just give us a very quick summary of what you’re seeing then on those multiples.
Paul: Yeah, so typically, you know MSPs at the very lower end of the market in terms of size, Sub half a million EBITDA, you know, you’re probably looking at a six to seven times multiple again, this is all qualified by a whole load of other factors But including there are some that will go for more if they’ve got I used to say a strategic angle and then at the higher end, you’re probably looking at an eight to ten times. And then at the level that where the consolidators are playing, so the 5 million plus EBITDA businesses, then you’re probably getting into double digit multiple. But there are a whole load of, you know, you know, elements that impact that valuation. You know, there’s customer profile, customer concentration, product set, contractual status of customers. You know longevity of that of the customer base, you know, whether there’s any Sector focus within that base always is always helpful, you know in scale as well So there’s a whole yeah, there’s a whole load of factors that draw, you know, key value drivers basically, you know say it’s important for business to understand what their key value drivers are
Dan: And there’ll be there’ll be a number of our listeners hurriedly writing down that those multiples and 10 times and they’ve not heard of the six or seven. But I guess just for again The sort of fuller market in terms of size could go all the way down to zero times and then start edging up in 0.
Dan: 1, 0. 2, before you even get to ones and two times and three times and five times, etc. So, maybe for the next part, we should just do that. just dive into some of those attributes that are going to get you up into that, those sort of solid mid single digit multiples.
Dan: And then and then see if we can you know, like customer concentration, for example, you’ve mentioned a few times. And so maybe let’s start with that, like a percentage of, like no one bigger than X percent or smaller than Y percent.
Paul: We I mean we always are so the key value if I just go through the key value drivers You And we’ll customer profile and customer concentration is one of those. So the starting is, you know, one of the most important drivers is scale size. You know, the bigger you are, that has an impact on the valuation.
Paul: No quit on the multiple, no question. It drives a multiple up the big you are. Then you’ve got organic growth. Again, organic growth is hard. You know, it’s not easy in this sector not high levels of organic growth, but the higher your organic growth. Again, that will translate to a higher multiple customer profile in terms of what are your customers?
Paul: Have you got, you know, customer concentration is one element of that. We would always be concerned if anyone has customers with more than 20 percent of the overall revenue unless they were well contracted, there’s still ways around to mitigate
Paul: that. You know, if they’ve been with a business for, You know, several years and they’re well contracted and they’re using, you know, they’ve got basically a hook on them that makes it very difficult for them to leave because of the services you’re providing or you’re providing multiple services on multi tiered contracts, for example, but also customer profile.
Paul: I mean, there are buyers out there that only really want enterprise customers, but there’s very few businesses only sell to enterprise customers. I mean, the typical profile of an MSP is you’ve got some large customers. Then a smaller group of sort of medium size and then a very long tail of small customers And you know, that’s there’s nothing wrong with that But if you’ve got what we call a more pure base of customers either all small or all enterprise That’s probably going to help the multiple nudge up. You know that and obviously the concentration point product profile is important You know, obviously legacy solutions are less valued than cloud based Solutions and you know managed services is highly thought after professional services Again is again helps move the multiple up even though it’s not necessarily recurring but sort of more legacy solutions and kit based businesses probably value slightly lower So that’s the product profile element of it and then you know growth opportunities other opportunities that a business can bring the buyer that it wouldn’t have without Being acquired or the buyer wouldn’t have without making that acquisition. Yeah, sometimes businesses have an opportunity But they’re only going to deliver it if they’re part of a larger group so that can have an impact to the you know, growth opportunities and other things like that management teams for the larger businesses if you’ve got a good management team that definitely again helps because It opens up private equity as an option and therefore You know, that will definitely help with evaluation. And and that’s pretty much it really. They’re the key drivers and you know, it’s really important for business owners to understand where they sit in those. With those key drivers before they go into a transaction so they know where what’s going to you know Suppress value and what’s going to grow the value in terms of that multiple
Dan: And equally for you then matching to the buyer that one buyer may not want any of the tail. Another buyer might be absolutely. I want tail and therefore you can, Position them to the right the buyer that’s most likely to see the value and appreciate it and put a price against it.
Dan: And just aware of time. This probably takes us nicely into your scorecards in terms of what to, how to present. how I am as a potential seller. So, well, I’m assuming as a seller perhaps you could talk us through the scorecard overall.
Paul: Yeah, so we’ve introduced this scorecard which is an online scorecard that asks 35 questions to a business owner And the questions are simply yes or no answers And so you answer yes or no and it and the 35 questions have a different Factor to them in terms of a number You So anything between one and four, naught and four And what it does then when you’ve answered the questions is it will give you a score out of 100 exactly out of 100 in terms of your Preparedness of your exit rate or transaction readiness score And so obviously if you’re above 90, you’re definitely ready for a transaction if you’re above 75 but less than 90 you’re probably almost ready and probably just need a few tweaks And if you’re below 75, there’s probably a bit more to work on and that scorecard is available for anyone to complete and it just gives them an idea of how ready they are for transaction because Say the biggest risk for transaction succeeding or not is how prepared the seller is or the you know or the party looking for funding is Going into transaction because processes are very onerous.
Paul: They’re very rigorous more so than they’ve ever been and so this is a really good way of getting people to understand the sort of questions they’ll get, the sort of things that could detract from value and the sort of things that won’t. And so that scorecard is there. It’s set in three sections.
Paul: There’s a finance and tax section, there’s a commercial section, and there’s an employee and legal section. So it covers all elements of the business, not just financial, but, you know, he looks at contracts, employees. You know, buildings, which often comes as an issue. There’s a whole range of things that looks up and all the things over the years that we’ve found caught us out on a transaction.
Paul: So it’s sort of all that 16 years of experience now of knowing where the things that you could trip up during the process.
Dan: Sounds, sounds really comprehensive. And other than a bit of time, 35 yes or no questions what’s that 40 minutes or so, if you read it carefully. Yeah.
Paul: Yeah. We have
Paul: some people fill it in 10 minutes.
Dan: Oh, right. Okay. Okay.
Paul: it’s really easy because it is yes or no. You don’t have to find any information. If you know your business well, You should be able to answer it pretty quickly. You might need to refer to an accountant or an external Advisor for one or two things, but I think in most cases.
Paul: Yeah, you should be able to run through them fairly easily they’re not there to trip anyone up. They’re just there to get a good view of say of how ready your business is
Dan: So if it takes you 40 minutes, you’re probably not going to get above 75, then maybe.
Paul: You never know if you yeah, it depends. It depends.
Dan: Good. Yeah, I mean, we I think we could probably talk to you for two or three hours. So, maybe we’ll have you back at some point in the future for another update on the market. Really fascinating conversation. It’s this time in the in the episode that we offer sort of shameless plug to our guests.
Dan: So, I guess we’ve already done that with the scorecard, but perhaps you’d like to say a few words.
Paul: Yeah. Well, thank you for inviting me on and yeah, appreciate the opportunity and yeah, if anyone wants to understand more about You know transactions about strategy m& a funding or exits, you know, we’re always there. We like to build relationships with businesses Over a long period, you know, we most of the businesses we take to an exit We’ve probably worked with them either informally or formally for probably two or three years at least You Some even longer than that.
Paul: So we’re always happy to give a bit of free advice, you know, pick up, you know, have a conversation over the phone without any assumption it’s going to lead to anything anytime soon. It’s just about helping business owners and management teams understand what they need to do to ultimately achieve their long term goals.
Paul: And that’s, you know, we’re there for that.
Adam: Sounds good.
Dan: Brilliant. So, yeah any final thoughts, Adam?
Adam: Good. Well, I’ve just got tons and tons of questions and we haven’t got time for them. I mean, maybe you’ve got a 20 second answer to this question just to end the podcast. What’s the top tip our listeners should go away with if they’re thinking about selling in the next two to three years?
Paul: Talk to someone who’s been through the process themselves and talk to an advisor. Even if it’s not night, always get an advisor to work with you because the outcome will be so much better.
Adam: Perfect.
Dan: Brilliant. Thank you very much.
Paul: Thank you.
Paul: Nice to be involved. Thank you. Bye. Bye