In the first installment of this series, I talked about the landscape of what is happening in relation to valuations as a result of the cloud and why focusing on the high margin revenue lines is critical. Next, I wanted to cover the second primary area of consideration for those on the buy-side of acquisitions – why specialization matters.
Over the past four years, our channel has done a phenomenal job of building the cloud into their businesses. With the number of partners now transacting well into the tens of thousands, it’s become a highly competitive market. We’re seeing this reflected in the sales activities taking place. Many partners have introduced managed services, leading to the successful development of their own annuity streams, and in some cases, we’re seeing price pressure on these revenue lines.
This competitive pressure stands to carry over into the world of Mergers & Acquisitions. With the increasing number of partners building strong businesses in the cloud, the supply and demand equation becomes an issue. In many of the conversations I have with partners, they’re beginning to show an increased interest in exiting the business, whether it’s to retire or to capitalize on the opportunity and move on to the next endeavor. The reality is rapidly becoming that being in the cloud and having recurring revenue may not be enough to fetch top dollar, should you decide to sell.
The buyer wants to ensure that what they’re taking on is defensible; that it can continue to grow without immediate erosion either from falling price points or from others who have little barrier to entry. Insulation from these risks encompasses three key pieces:
  1. Specialization: To combat this, we’re beginning to see top partners introduce specialization into their businesses. Kevin McMillen, CEO of RyanTech, recently wrote a great blog on their approach to doing so. In many cases, specializing manifests itself in the form of going vertical. I shared my thoughts back in February on the ways in which I see partners executing this.

  2. Packaged IP: Picking a sub-segment(s) of the market to pursue is only a part of the equation. While speaking the vernacular of these customers and tailoring your services to them enhances your relevance, another provider can quickly educate themselves on the space and join you. My general suggestion is that methods of further separation need to be included. To me, this comes in the form of the packaged IP we so often talk about.

    Packaged IP can mean a lot of different things. In this case, I’m referring to finished solutions that can be commoditized and sold to end customers as annuity products. These can be extension solutions such as SharePoint templates or Dynamics CRM Online add-ons such as Restaurant 365 or PaaS applications built on Microsoft Azure. The aim is to create a wider net of value that the competition will have a tough time replicating at a similar price point, given they’ll need to build something net-new, while you’ll already have a product that can be readily sold and consumed as an operational expense, lessening the need for an outlay of capital. A wide, sub-segment relevant solution set can not only cement your position as a go-to, trusted advisor, but increases your Average Revenue per Customer (ARC).

    You can learn more about the approach to identifying sources of packaged IP and deciding on which ones to build by visiting Cloud SureStep on MPN. Navigate to “Building your business” > “Learn” and then scroll down to the section titled “Intellectual property in the cloud.”

  3. Addressable Market: With specialization in place and a rich solution set to sell, the next inspection point for a buyer is the long-term potential. When selecting your areas of focus, know the number of entities, the propensity of the market to buy what you’re selling, and the expected average lifetime value of each customer. To help get started, we recommend reviewing the Cloud SureStep Market Focus Analysis Guide and the accompanying Analysis Worksheet.
The right specialization strategy, combined with focusing on developing a rapidly growing self-owned annuity stream from managed services and packaged IP can provide significant benefit to your overall valuation. For the final installment in the series, I’ll cover some of the primary discount factors that can have the inverse effect and drag down valuation multiples.
As always, I welcome additional learning, feedback, and stories from our channel.
Thanks and more soon.
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