The coronavirus pandemic threw a wrench in 2020 MSP mergers and acquisitions activity, but the pace appears now to be picking up again.
That's according to IT management software vendor Kaseya, which discussed the state of MSP M&A at its annual user event Connect IT held virtually this week. Speaking at a conference session, Jim Lippie, Kaseya senior vice president of partner development, said the company had been tracking an upward trend in MSP M&A prior to COVID-19. In 2017, there were 317 reported MSP mergers and acquisitions. That number more than doubled in 2018 with 682 M&A. A "massive year" followed, with 991 M&As in 2019, according to Lippie. However, the activity slowed this year amid the pandemic, with only 285 reported M&A so far.
"Nothing really happened in March, April, May, but in June and July, we started to see things pick back up again. We are talking to a lot of MSPs that are increasing their pipeline activity specific to M&As," Lippie said. "We really anticipate [M&A numbers] to go back up. 2021 could be a really big year for MSP M&As."
Lippie also pointed to a trend of IT services companies making M&A a deliberate component of their overall growth strategy. "We are starting to see a lot more multi-[acquisitions] out there, because [these companies] recognize how important it is for their growth strategy," he said.
The advantages of scaling the business
Lippie asserted that the burgeoning MSP mergers and acquisitions space has been fueled by companies that recognize "there is strength in scale."
He highlighted three results MSPs can glean from a merger or acquisition in order to grow their business or profit margins: gain more employees and resources to dedicate to sales and marketing efforts, increase operations efficiency and extend geographical reach.
In terms of operational efficiency, he said an M&A can add "different groups of employees that you can dedicate" to specific responsibilities, creating "a lot of efficiency organization-wide by being able to streamline activities." He added that expanding employee headcount can also give an MSP more buying power. "If you are an MSP [with] 100 or so employees, you are buying your software, for instance, generally at a much lower rate than smaller MSPs, which leads to higher margins."
Jim Lippiesenior vice president of partner development, Kaseya
Lippie said 82% of MSPs that do $10 million or more in revenue pay a minimum of 35% less per employee for their core tools than an MSP doing $5 million or less. Core MSP tools include professional services automation, remote monitoring and management, and backup and security products. "These are all core tools that an MSP uses to run their business and certainly to bring on more revenue. So, this is a key advantage … when you start to look at the companies [that] scale," he said.
He also noted that 87% of MSPs that do $10 million or more in revenue have two or more back-office tools than do smaller MSPs. He cited IT documentation, business intelligence and HR applications as the type of back-office tools that separate larger and smaller MSPs. When MSPs start automating their businesses and operations, they gain "more scale" and greater profit long term, "which … just perpetuates itself."
Another operational efficiency advantage for larger MSPs is higher productivity among technicians. Lippie said 93% of MSPs that do $10 million or more in revenue have technicians closing 4.5 tickets per day more than smaller MSPs.
Geographic expansion via MSP M&A
Lippie noted that one of the key advantages of acquiring or merging with another MSP is to grow your total addressable market.
MSPs that do $10 million or more in revenue have an average of about 2.3 regional offices, he said. MSPs doing $5 million or less in revenue, meanwhile, have 1.2 regional offices.
"These MSPs that are going out and doing two or three acquisitions a year … in different geographic regions [are] gaining access to so many more potential customers that are going to fuel the sales pipeline," he said.
Growing an MSP through M&A also ultimately benefits business valuations. "Scale gives you a massive advantage when it comes to valuation multiples," he said.
Culture, platform and playbook
Based on Kaseya's observations, Lippie said the company has identified three factors common among successful MSP mergers and acquisitions strategies: culture, software platform and playbook.
For culture, he said MSPs should merge only with companies that have the same philosophies for going to market and managing employees, customers and sales. The acquisition target should also be looking at the future and market dynamics in the same way. Additionally, the company you are merging with should have the same exit strategy as your company.
"Successful MSPs are paying attention now to culture like never before," Lippie noted.
Scaling with like-minded MSPs
Lippie said mergers have developed into a powerful growth strategy for MSPs.
"As I look at the landscape, and certainly post-COVID, there is an opportunity now for like-minded MSPs to get together and create scale," he said.
He predicted the managed services market could see "a lot more successful mergers going on" if MSPs can figure out how to properly evaluate their businesses and "find some like-minded professionals that are looking to do the same thing, that have the same vision for the future."
For platform, Lippie said there is "a huge advantage" for MSPs that have integrated tool sets. "We've found that the MSPs that are really being successful on the M&A front are leveraging a platform approach."
According to Kaseya, MSPs that use at least three integrated products grow 18% more than those that don't.
MSP platform strategies
Like some of its competitors in the MSP software market, Kaseya has embraced product integration over the past several years. In Kaseya's case, it's by developing an MSP software platform called IT Complete. Kaseya announced at the Connect IT 2020 conference that it would expand IT Complete with the acquisition of Graphus, an email security and antiphishing vendor.
Finally, for playbook, Lippie said successful MSP M&A depend on having a systematic rather than ad hoc or opportunistic approach. Lippie described MSP M&A playbooks as guided by the following steps:
- Identify prospective MSP acquisition targets. He said MSPs should have a pipeline for MSP acquisitions like they do for customer acquisitions, as well as criteria for finding prospective MSP acquisition targets.
- Evaluate MSP targets in a uniform way. MSPs should "know exactly what they are looking for and what is meaningful to them" when assessing potential acquisitions, Lippie said.
- Value the MSP in a uniform way. After identifying and evaluating an MSP target, MSPs should then use a consistent approach to how they appraise the target.
- Negotiate terms and conditions. He advised MSPs should have a systematic method for negotiating M&A terms and conditions, knowing "exactly what can't be changed in the agreement and areas that [you] can actually tweak a little bit." For the most part, he said, about 80% to 90% of an MSP's terms and conditions should be locked.
- Integrate tools and teams. After acquiring the company, MSPs should have a consistent approach to "coming in and saying, 'OK, these are the tools we are going to use,'" and at the same time, integrate employee teams with the acquired company, deciding who stays and who goes.
- Instrument the business. Lastly, MSPs need to "have a systematic way of looking at the metrics within an organization that contribute to quality results," he said. "You can't manage what you don't measure."
Lippie concluded by saying MSP mergers and acquisitions remains "a massive trend" in the industry, despite the pandemic's economic disruptions.
"We are going to see [MSP M&A] now for years to come," he said.