Monday, September 30, 2019

Transportation Information, Monetization, and Access Control Solutions




2018 Revenue: $1.93M            2018 EBITDA: $223K


Company was founded in 1999 and has extended its system to a SAAS model for easier rollout and support. The Primary Company offers a number of patent protected transportation informatics and access control solutions within the Intelligent Transportation Systems space to State DOT (75% of Company 2018 revenue), City or County Public Works (15%), and other agencies (10%).
Its Sister Company provides software products and consulting services that are used by public agency and private sector clients to manage infrastructure systems including county roads, city streets, sidewalks, curb and gutter, signs and signals, bridges, parking lots, wastewater and storm drainage systems, water pipelines, park features, and other miscellaneous assets.

§  Strong Client Relationships: The Company is proud of its strong ties to clients. Evidence of these relationships is shown in the 85% rate of repeat business. The Company verified client success stories help to easily acquire new business.
§  Outstanding Growth Opportunities: There exist several opportunities for the Company to significantly increase revenue and profit, including leveraging the Company’s proven reputation, patent protection, and increased infrastructure spending to pursue and penetrate new and existing markets.
§  Hold Patents in the First Position: On critical and pervasive transportation informatics reporting systems currently in use by other companies. 



Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

Sunday, September 29, 2019

Marketing & Presentation Software for Insurance Agents and Financial Advisors - Company for Sale



2018 Revenue: $1.1 M      22% Growth Rate   42.5% EBITDA Margin



Headquartered in Kentucky, Company offers marketing and sales presentation software for insurance agents and other financial advisor professionals. The software and associated materials support tax-advantaged savings programs using the Indexed Universal Life Insurance product.

The product package was effectively established for one larger client in approximately 2012, and officially introduced to other clients in late 2015. Market feedback has been very positive, with revenues growing from $160,000 in 2014 to over $1,095,000 in 2018.

The suite of products is offered on a recurring subscription basis, and is website-accessed by its customers .The site enables financial advisors to create and manage a variety of customized, compliance-approved client reports that streamline the complex IUL product.  Client reports are accompanied by complete marketing programs that support member advisors from the prospecting phase through the close of the sale.  IUL is one of the fastest growing products in the life insurance industry, where it is used as a tax-advantaged cash value accumulation tool. A rapidly-growing number of advisors use IUL for retirement planning with their clients.

·        Growing Market for the Company’s Services: Main product is an illustration software for Indexed Universal Life. IUL’s emerging popularity with insurance agents and financial advisors, along with retirement savings wealth trends in general, support strong momentum for Company's market opportunity.
·        Proprietary Financial Product Development:  Company occupies a very unique segment in the retirement savings industry, has hundreds of agent and carrier contacts, and understands the underlying actuarial and marketing aspects of insurance-oriented savings products. All materials and product names are copyrighted.
·        Track Record/Proven Product Acceptance: Company has increased its year-over-year sales to one of the largest IMOs in the industry since inception, and now has other IMOs participating, as well as other market participants interested. Great growth potential with expanded marketing resources.

Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

ORGANIC SEARCH ENGINE TRAFFIC GENERATION SOFTWARE COMPANY -Company for Sale




2019 Revenue: $900 K proj                  Gross Margins > 90%

With over 10 years of combined research and development, the software and technology have been fine-tuned and extensively tested. The software has many built-in SEO features that can be customized at will.  These features, along with other strategies incorporated in their website production process, have allowed the company to create a portfolio of websites that generate 100% organic search traffic.

Currently, the company’s websites receive approximately 6.5 million unique visitors/year, all of which is organic search engine traffic from the major search engines. As such, the company does not have the need to pay for marketing or SEO of any kind, giving it a large competitive advantage over its competition.

The owners have created a cutting-edge software program and website production technology  hat has almost unlimited potential in the right hands. We lack the management team, staff, and resources to gain broad implementation and distribution. We seek to be acquired by a company that can help our product reach its full potential.

·        Proven Methodology: The company’s websites receive approximately 6.5 million unique visitors/year, all of which is organic search engine traffic from the major search engines.
·        Proven Technology The company uses its proprietary software and website production technology to create robust websites (in a semi-automated fashion) that target large numbers of geographically-based keywords in a variety of verticals. 
·        Great Growth Potential: Owners operate this as a very profitable life-style business and have limited growth. Their sites routinely outrank billion-dollar companies for very expensive keywords in high-competition verticals like drug addiction rehab. The Company is just scratching the surface for growth and income.
·        Powerful Geo-Targeting Technology: The ability to go after geo-targeted longtail keywords on a large scale is another key feature. Company can target thousands of combinations of longtail keywords on each site it produces. This allows for flexibility, uniqueness among multiple sites, and the ability to attack a niche from several different angles.
·        Scalability: The software and semi-automated website production process allows for quick turnaround time. An organization with the proper staff in place could easily produce 100+ websites/month, and there are dozens upon dozens of niches that can be targeted, most of which the company has yet to explore in detail.
·        Superior Cost Performance to Paid Search and SEO Services: Their business model that targets Pay Per Call lead buying companies and uses highly effective organic traffic generation far outperforms the paid search models especially on the very expensive and competitive keywords.
·        Secure and Protected: The software code is fully encrypted and cannot be copied to any other site without a license. The software is highly secure and hacker-proof and their websites have ever been hacked.
·        Scales Rapidly: Company sites generate organic traffic with virtually no time delay. Websites that depend on SEO for traffic are highly dependent on budget and time allowances for web traffic to materialize. Not only do we get purely organic traffic, our traffic converts.      
·        Superior ROI: The total cost for Company to produce a website from start to finish is usually $500 or less, and full production can be accomplished in less than a day.  This allows for a fast return on investment.

·        Flexible Integration:  The software can be installed on any existing website, including Wordpress blogs. Installing the software would allow business owners and blog owners to expand their geographical search potential.

Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

All-in-one SIP Enabled Contact Center as a Service Provider - Company for Sale



2018 Revenue: $1.7M                 Gross Margins > 90%


 Their offering is a robust Multichannel Contact Center and Workforce Management solution for mid-market and Enterprise customers. It is a multichannel skills based routing contact center and scales from 5 to 1250 agents per location. The base “Select” software includes skills based routing, flexible announcements, agent and supervisor software with presence, call control, queue monitoring, scrolling marquee, IM text messaging, supervisory advanced monitoring and agent control and historical call reporting.

Advanced add-on options can complement the “Select” base package. These options include: Call back number queuing, Customer post-call surveys, VoIP voice and screen recording,  Blended E-mail, Webchat and SMS queuing, CRM and customer database integration with data dip for smart routing and call coordinated screen pop, Blended automatic outdial campaigns with power/preview/progressive and predictive auto dialer.

The founders have been running the company for more than 23 years.  They are skilled software engineers and that is the strength of the company. They feel that they could greatly benefit from an acquisition by a larger company with the resources and sales and marketing expertise to capitalize on the explosive growth in this unified communications space.

·        Robust Product Set: Contact Center suite includes multichannel inbound, outbound, IVR, virtual queue, surveys, screen pops, recording and Workforce Management (WFM) and Workforce Optimization (WFO).
·        Attractive SaaS Business Model: Company has been delivering call center software solutions since 1996 and has captured that intellectual property and expertise in their proven SaaS offering - Call Center as a Service.
·        Great Growth Potential: Globally, the cloud-based contact center market is expected to grow from $6.47 billion in 2017 to $24.11 billion by 2023, at a CAGR of 25% during the forecast period according to Market Research Future. 
·        Strong Product Adjacencies: With UCaaS (Unified Communications as a Service) which is accelerating at an annual rate of 29%, according to a Synergy Research Group.
·        Relationship With a Major UCaaS Provider: Company has established a relationship with a major UCaaS provider with their Channel Partners including Company's Contact Center module where appropriate.
·        Expanding Interest in the UCCaaS Space: Several Major UCaaS providers are either developing or acquiring Contact Center Capabilities. Ring Central acquired Connect First, Nextiva released their own Cloud Contact Center solution, and  Talkdesk, the fastest growing Contact Center as a Service provider, completed a $100 million in Series B funding in 2018. Vonage acquired New Voice Media.
·        Software integrates with SIP Enabled hardware and software systems
·        Very Competitive on Price and Features 


Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

Friday, March 8, 2019

SaaS Mergers and Acquisitions Deal Announcement

#M&A #MergersandAcquisitions #SaaS #InvestmentBanker #softwareM&A #sellsoftwarecompany

Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

Thursday, February 28, 2019

When an EBITDA Multiple Doesn’t Work for a Valuation


Takeaway: In our technology focused mergers and acquisitions practice we are often approached by an entrepreneur saying, “I want to sell my company for strategic value.” This article explores what strategic value means and why a buyer would pay more than an EBITDA multiple for a seller’s company.

Rule of Thumb Valuations

In the world of mergers and acquisitions, sophisticated buyers, private equity firms, and business valuation firms establish some “rules of thumb” valuation multiples. The International Glossary of Business Valuation Terms defines “rule of thumb” as “a mathematical formula developed from the relationship between price and certain variables based on experience, observation, hearsay, or a combination of these; usually industry specific.” For one industry it might be a multiple of revenue, for another it is based on assets and capacity like the hotel industry at $25,000 per available room, or Revenue Per Available Seat Mile (RASM) for airlines or for other industries, monthly active users or subscribers, an EBITDA multiple, or a value based on discounted cash flow.
The Pros and Cons of Rules of Thumb Multiples
Rules of thumb multiples are very convenient and a great starting point for a valuation discussion or analysis, but we view them as just that, a starting point. Valuing a business is far more complex than valuing a piece of commercial real estate (discounted cash flow) or a single family home. For a home there are very accurate comparables based on the number of bedrooms, the number of bathrooms, school district, distance to public transportation, square footage, and a few others. The value of a business, however, is subject to the interpretation of the buyers that evaluate it. A strategic buyer will evaluate a potential acquisition based on the value that can be created after the assets of the target are combined with buyer’s assets. This points to two critical elements of your business sale; 1. Capture and articulate your company’s strategic value drivers in your business sale marketing documents and, 2. Get as many opinions from the market as possible.
Capture and Articulate Your Company’s Strategic Value
Below are some of the most powerful drivers of strategic value:
1. Contractually recurring revenue – This is exactly why most major software companies are moving away from a one-time licensing fee to a software as a service (SaaS) offering. Microsoft and Adobe recently changed their business model to this approach and their market values are soaring. Salesforce.com launched their business using the subscription model, and they have been a huge success. The time and materials IT service model is disappearing and being replaced with a managed services offering. Contractually recurring revenue tremendously reduces the risk for a business buyer and they will pay up for it both in purchase price and the percentage of cash at closing versus earnouts and deferred contingent payments.

  1. Time to Market and First Mover Advantage – Most business buyers could develop the sought-after technology themselves, but we suggest they analyze the cost of their time to market delay. Believe me, with first mover advantage from a competitor or, worse, customer defections, there is a very real cost of not having your new strategic product today. We were able to convince one buyer that they would be able to justify our seller’s entire purchase price based on the number of client defections their acquisition would prevent. Think of the difference today between first mover Gatorade and the distant number 2, PowerAde.
  2. Companion Products and Similar Customer Base – There is an old salesman saying, “It is ten times easier to sell an additional product to an installed account than it is to open a new account.” If you product or service is viewed as a logical add-on to the buying company’s product suite it can produce some stunning post acquisition sales growth. Similarly, if the buyer’s and seller’s customer base is similar, great value can be achieved by cross-selling to one another’s customer base. The market may provide you with value expansion because you have an installed base of difficult to penetrate blue-chip accounts.
  3. Removing Barriers to Entry – If your company has already broken the code to federal government business or even more importantly security clearance, this can be quite valuable to a buying company that is anxious to penetrate that client.
  4. A Superior Business Model – For the selling company, of course, their main product, service, and intellectual property are valuable. Often what is overlooked, however, is the value of a better sales system, or social media approach, or the use of outside contractors. The buying company might be thinking that if we implemented the seller’s sales system across our entire sales force, could improve our productivity by 10% across the board. If you have developed a particular strength, make sure your potential buyers know about it and value it.
  5. Improve the Core Product Offering of the Buyer – We represented a seller who had developed a database and algorithm to help hospitals establish the proper level of nurse staffing for the various hospital units. The two final bidders were both major providers of human resources and staffing software for hospitals. Often these software systems would sell for a half million dollars and up. Our client’s product was viewed as an important module that would improve the competitiveness of the buyers’ main system. The selling price ended up being way higher than even an aggressive multiple of EBITDA.
  6. Restate Financials to Reflect the Buyer’s Pricing Power – For small technology companies selling into the enterprise, there is often a substantial required pricing discount when competing with the big legacy provider. In one M&A deal we restated our seller’s historical financials using the pricing power of the brand name acquirer. This client was a small IT company that had developed a fine piece of software that compared favorably with a large, publicly traded company’s solution. Our product had the same functionality, ease of use, and open systems platform, but there was one very important difference. The end-user customer’s perception of risk was far greater with the little IT company that could be “out of business tomorrow.”
  7. By applying the pricing model of the buying company to our client’s income statement, we were able to double the financial performance of our client on paper and present a compelling argument to the big company buyer that those economics would be immediately available to him post acquisition. It certainly was not GAP Accounting, but it was effective as a tool to drive transaction value.
    1. Defensive Response to M&A Activity in the Market – This dynamic can drive company selling price beyond traditional valuation models. We have a number of potential sellers in our pipeline that have contacted us well in advance of taking their company to market. They just wanted to make a connection and to get advice on how to prepare their company for their eventual optimal exit. When we hear about a completed acquisition of one of our prospective client’s competitors, we pick up the phone. This deal announcement will normally elicit a competitive response from the marketplace in the form of several other acquisitions from the buyer’s competitors. You see it all the time. If Merck buys a biotech company with a promising cancer drug pipeline, you can be pretty sure that Novartis, Pfizer and others will soon follow suit. The same goes for the tech industry if Google buys an Artificial Intelligence company. Microsoft and Adobe will be close behind. This produces an arbitrage opportunity and company selling prices shoot up until the competitive demand is satisfied.
    Sell to Your Strengths
    This list is by no means exhaustive. You are in the best position to recognize your company’s strategic value components. As you engage with the various potential buyers, try to envision how your two companies would combine and how they could leverage your assets to produce performance well beyond 1 + 1 = 2. You can even take this one step further. Try to quantify this synergy and use that in your selling approach. Your value proposition is unique to each individual buying company so it is important that you maximize your exposure to the market and invite as many opinions as possible.
Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

Monday, February 25, 2019

Acquisition Opportunity - Managed IT Services & IP Telephony Provider SMB




2018 Revenue: $4.77MM                          2018 EBITDA: $1.12MM

§ Recurring Revenue Business Model Focus: Steadily increasing company's revenues generated from managed services contracts (48% of annual sales) with enhanced sales resource and focus.

§ Diversified Customer Base: With over 275 clients, no single customer represents more than 3.5% of annual revenue, and the top 5 customers represented 15% of sales in 2018. Their customer base is also well diversified across several industries.

§ Growth in Revenues and in Profitability: The Company has achieved a 69% sales growth from 2015 - 2018 while steadily increasing EBITDA margins from 19% to over 23% over the same period.


The Company offers data, voice, and interconnect services as well as managed services, premise and cloud phone systems, and cloud services. The Company provides IT Support such as technical helpdesk support, computer support, and consulting to small and medium-sized businesses. Company's Managed Service Plan ensures proactive care, round-the-clock maintenance, and live (24x7x365) help desk support. In 2018, revenue was derived from hardware and software sales (33.8%), recurring revenue (service agreements and circuit commissions) (48%), and break/fix and ad hoc services (18.6%). 


Company differentiates itself from the competition on many fronts including: a proprietary process for evaluating and solving technology needs; a comprehensive approach based on years of experience with and a market-leading position in both data and voice technologies; and a full suite of services ranging from infrastructure to cloud services, which is unparalleled in the Company’s market segment.

Company differentiates itself from the competition on many fronts including: a proprietary process for evaluating and solving technology needs; a comprehensive approach based on years of experience with and a market-leading position in both data and voice technologies; and a full suite of services ranging from infrastructure to cloud services, which is unparalleled in the Company’s market segment.


Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

Monday, December 31, 2018

How a Letter of Intent to Buy Your Company is Like an Apartment Lease

This is our latest article published on Divestopedia.


Takeaway: In a business purchase letter of intent, just like in an apartment lease, the party producing the document will attempt to stack the deck in their favor.

Surprisingly, there are many similarities between signing an apartment lease and a letter of intent. They relate to risk reduction, the balance of power between the parties to the transaction and the level of experience of the buyer and seller.

Why Would I Sign This Document?

As a seasoned business owner, If you were to read an apartment lease today, your reaction would probably be, "Why would I sign this document with everything possible favoring the landlord?” Thinking from that perspective, let's compare this to an unsolicited letter of intent to buy your company.


It's All About Risk Reduction

The apartment lease accounts for everything that could possibly go wrong between landlord and tenant and makes the contractual outcome favor the landlord in every case. From rent late fees to security deposits to notice requirements to stains on the carpet, these agreements cover it all. The landlord is completely protected for every eventuality and bears very little risk from this relationship — to the extent that the landlord writes the contract to reduce her risk, the tenant is the recipient of this risk.

Business Buyers Have the Experience


Just like the apartment lease, the letter of intent is written by the experienced party. The landlord has completed hundreds of successful rentals, while the renter is a novice. The buyer has likely acquired several companies and attempted to acquire dozens more, while this is likely the owner’s first sale. So just like the apartment lease favors the landlord, the letter of intent is written to the advantage of the buyer.

A Non-Binding LOI Provides the Buyer Plenty of Wiggle Room

The first clue is that it is a non-binding letter of intent. During the early stages of the mergers and acquisitions process, limited financial data and high level customer information is exchanged. This enables the buyer to judge whether or not the company is a good fit and meets their acquisition criteria. If the buyer wants to proceed further, they produce a letter of intent that requires a buyer sign-off and guarantees that the seller will not shop the deal while due diligence is completed. This is fair, because both parties will invest significant resources going through due diligence. The due diligence period typically lasts from 45 to 90 days and is exhaustive. The principal of the letter of intent is to spell out the terms and conditions for the acquisition, pending no due diligence surprises that are material to either the value or the risk of the transaction.

Buyers Often Abuse the Due Diligence Process


Buyers have their team of experts, usually consisting of internal resources, plus an outside accounting firm and legal counsel. They instruct their outside accountants to perform a quality of earnings report. This is where the abuse comes in. In its purest form, the quality of earnings report is a check and validation that the information they based their purchase offer upon is accurate and correct. At its most unsavory, it is the buyer instructing the accounting firm to render opinions that are designed to attack the value and terms originally set forth in the letter of intent. Deep into this exhaustive process where the competitive bidders are long gone and the seller is experiencing deal fatigue, the buyer will use these "expert opinions" to require price adjustments to the deal.

On top of that, they play brinkmanship: If you don't agree, we walk away. These professional buyers are emotionally detached from this transaction, unlike the sellers. They will just move on to the next one if they don't get what they want. The seller can either cave in and take a haircut or walk away from a deal they have invested six months of emotion and effort into.

The Buyer's "Experts"

One quality of earnings report we experienced was an opinion that the benefits package for the employees was below market. To get it up to market would cost $100,000 and, since our purchase price was based on a 5 X EBITDA multiple, we are dropping the purchase price by $500K. It was completely arbitrary and not accurate to compare our small market client with the Boston market compensation package. Our client's benefits package was reasonable and customary for their current market. On another transaction, the quality of earnings opinion was that last year's growth was unusual so we are just going to normalize EBITDA over the last 3 years to take a $750 K adjustment to our current purchase offer. Forgive my French, but total arbitrary BS.

The Power of Options

Back to our apartment lease comparison. Why this behavior? The landlord has plenty of other renters waiting in line for the apartment. The buyers typically have multiple acquisition interests in process at any one time. If you don't like our terms…. Next!

Counter Offer With Precise Language

Much of this balance of power trouble for the business seller can be avoided with an intelligently worded letter of intent negotiated prior to agreeing to dual signing it and taking your company off the market. Once the LOI is signed, the price and terms never improve for the seller — they only go in one direction that favors the buyer. So, oftentimes during due diligence, the performance of the business will suffer because the owner and CFO are distracted by all of the demands of the deal. The experienced buyer will often demand a change in purchase price based on this drop in performance.
If they are going to operate this way, why not turn the tables around? You could counter offer the language in the letter of intent with, "The purchase price is based on a multiple of EBITDA of 5.34 times. Based on the September 30th trailing twelve months that reference purchase value based on $1.0 million of EBITDA is $5.34 million. For the final purchase price, we will use the trailing twelve months to the closing date EBITDA X 5.34.” The buyer should not be able to reasonably disagree with this. It is like a mutual NDA: What is good for one is good for both.

Net Working Capital Is a Key Buyer Target

Another poorly worded clause (in favor of the buyer and to the detriment of the seller) in the letter of intent is about setting the level of net working capital. The typical LOI clause prepared by the buyer's experts is: This proposal assumes a cash free, debt free balance sheet and a normalized level of working capital at closing. And, of course, they try to leave this open so that they have huge wiggle room for their quality of earnings report opinion which may set the level arbitrarily at $600,000 late in the due diligence process.

Being a savvy seller, you’re going to enter competitive negotiations and give a counter proposal of $200,000, for example, and define how you will calculate it. Tips and tricks like this can be learned (over time and with some cost) or can be hired out in the form of an advisor; either way, the seller has more options than the buyer wants you to think!

Be Careful With Earn Outs

Another area where the sellers potentially get their pockets picked is clever expert language. It has to do with earnouts. Often the buyers will put an all-or-nothing earnout condition that says, for example, the seller must grow revenues by 10% per year to get the earnout and if the seller falls short, she receives nothing. A better way for the seller is to calculate a factor to multiply each year's revenues by in order to arrive at the earnout payment for that year. For example, total revenues X 0.11.
One additional earnout trap is the multiple conditions earnout. You have to achieve a specific revenue growth target plus a profit goal in order to receive the earnout. This is terrible for the seller because, first, a multiple condition earnout is very hard to consistently hit and, second, once you sell your company, controlling the profitability is much more difficult due to such factors as corporate overhead allocation.

Final Thoughts

So if you are negotiating the sale of your company, try to change the dynamic from that of an apartment renter to one of a commercial real estate lessee. You can balance the power by seeking several competitive bids, employing experts who know the industry norms and the market, and through the use of counter offers that add clarity and precision to the terms and conditions written into the original letter of intent by the buyer's team of experts. 

Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value

Wednesday, October 24, 2018

The Art of Getting Strategic Value for Software Companies


Takeaway: If you want to get top dollar for your software company, you need to think strategically and entice the right buyer with the right information. Below is our latest published article on Divestopedia.

One of the most challenging aspects of selling a software or information technology company is coming up with a business valuation. Sometimes the selling prices of these technology companies are far higher in terms of valuation metrics (i.e., EBITDA multiple or price to sales) than those for a manufacturing company, for example. This article discusses how information technology business sellers can properly position their company to the right buyers in order to achieve a strategic transaction value.



Why are some of these software company valuations so high?

It is because of the profitability leverage a technology company can generate. Here's a simple example to illustrate. What is Microsoft's incremental cost to produce the next copy of Office Professional? It is probably $1.20 for three CDs and 80 cents for packaging. Let's say the license cost is $400. The gross margin is north of 99%. The same goes for Google with their Ad Words platform that is "self service" for the businesses buying the paid search placement. The majority of content on Facebook is provided by users, making that business model very profitable. That does not happen in manufacturing or services or retail or most other industries.

Fill the Valuation Gap

One problem in selling a small technology company is that they are a relatively unproven commodity compared to their large, brand name competitors. So, on their own, they cannot create this profitability leverage. The acquiring company, however, does not want to compensate the small seller for the post-acquisition results that are directly attributable to the buyer's market presence. This is what we refer to as the valuation gap. The potential is there, but the battle is about what percentage of future results gets allocated to the seller and what percentage gets allocated to the buyer.

The business seller wants to artfully help the buyer justify paying a much higher price than a pre-acquisition financial valuation of the target company. In other words, the seller wants to get strategic value from the buyer. An important thing to keep in mind is that the effectiveness of this strategy goes up exponentially based on the number of qualified buyers that are vying for the acquisition when it is time to submit letters of intent. The reason for this is that some of the acquisition benefits we present will resonate with some and not with others. The more buyers involved, the greater the chances of one or more of the benefits creating a favorable impression of post-acquisition business value creation.

Tips on Positioning Your Software Business for Maximum Price:

Cost for the buyer to write the code internally — Many years ago, Barry Boehm, in his book, Software Engineering Economics, developed a constructive cost model for projecting the programming costs for writing computer code. He called it the COCOMO model. It was quite detailed and complex, but I have boiled it down and simplified it for our purposes. We have the advantage of estimating the "projects" retrospectively because we already know the number of lines of code comprising our client's products. This information is designed to help us understand what it might cost the buyer to develop it internally so that he starts his own build versus buy analysis.



Most acquirers could write the code themselves, but we suggest they analyze the cost of their time-to-market delay. Believe me, with first-mover advantage from a competitor or, worse, customer defections, there is a very real cost of not having your product today. We were able to convince one buyer that they would be able to justify our seller's entire purchase price based on the number of client defections their acquisition would prevent. Think of the difference today between first-mover Gatorade and the distant number two, Powerade.

Restate historical financials using the pricing power of the brand name acquirer. We had one client that was a small IT company that had developed a fine piece of software that compared favorably with a large, publicly traded company's solution. Our product had the same functionality, ease of use and open systems platform, but there was one very important difference: The end-user customer's perception of risk was far greater with the little IT company that could be "out of business tomorrow."

We were able to double the financial performance of our client on paper and present a compelling argument to the big company buyer that those economics would be immediately available to him post-acquisition. It certainly was not GAAP accounting, but it was effective as a tool to drive transaction value.




Financials are important so we have to acknowledge this aspect of buyer valuation as well. We generally like to build in a baseline value (before we start adding the strategic value components) of 2 X contractually recurring revenue during the current year. So, for example, if the company has monthly maintenance contracts of $100,000 times 12 months = $1.2 million X 2 = $2.4 million as a baseline company value component. Again, this financial analysis is to establish a baseline, before we pile on the strategic value components.

We try to assign values for miscellaneous assets that the seller is providing to the buyer. Don't overlook the strategic value of Blue Chip Accounts. Those accounts become a platform for the buyer's entire product suite being sold post-acquisition into an "installed account." It is far easier to sell add-on applications and products into an existing account than it is to open up that new account. These strategic accounts can have huge value to a buyer. Value that can be created for the buyer is important when the selling company has developed a superior sales system or highly effective business model that could be implemented in the buying company.



Finally, we use a customer acquisition cost model to drive value in the eyes of a potential buyer. Let's say that your sales person at 100% of quota earns total salary and commissions of $125,000 and sells five net new accounts. That would mean that your base customer acquisition cost per account was $25,000. Add a 20% company overhead for the 85 accounts, for example, and the company value using this methodology would be $2,550,000.
Conclusion

You think this is a little far-fetched. However, these components do have real value — that value is just open to a broad interpretation by the marketplace. We are attempting to assign metrics to a very subjective set of components. The buyers are smart and experienced in the M&A process. They'll try to deflect these artistic approaches to driving up their financial outlay.

The best leverage point we have is that those buyers know that we are presenting the same analysis to their competitors and they don't know which component or components of value will resonate with their competition. You need to provide the buyers some reasonable explanation for their board of directors to justify paying far more than a financial multiple for our client's company.

Dave Kauppi is a Merger and Acquisition Advisor and President of MidMarket Capital, providing business broker and investment banking services to owners in the sale of information technology, software, and other technology based companies. Dave is also the editor of the Exit Strategist Newsletter and author of the Book Selling your Software Company - An Insider's Guide to Achieving Strategic Value