Double Your Business Valuation-Just Make Sure You Have the Right Legal Framework in Place | PSA Sales & Marketing Committee
March 17, 2020
By Cliff Franklin, PSA Sales & Marketing Committee
At last year’s PSA TEC, I was confident my business was heading in the right direction. We had seen an increase in managed services clients, and these services represented close to twenty percent of our annual revenues-a magic number touted by several speakers.
Dollar signs were whirling around my head when business valuations were being spoken about. “Time to get a valuation, I suppose.”
The valuation came back, and I was shocked. It seems we’re not doing as well as I thought. While installation and managed services were well balanced for our business size, the contract (and in some cases lack of agreement) would have been unattractive to a potential buyer.
Contract, service agreements, call them what you like, they are the main brace of any business valuation.
Systems integrators are generally valued using two distinct methods. The first is by multiple of EBITDA, the other, and to my mind, a more lucrative model, is by multiple of recurring monthly revenue (RMR); however, not all RMR is equal. I don’t want to get into the approach and benefits of these methods in this post, there are countless resources online for you to study. But study away, your ultimate valuation is the perfect roadmap for business planning.
Interested in selling your business? Be prepared for the buyer’s due diligence team who are going to analyze each of your contracts to see where value can be stripped from your business. It’s their duty to maximize the value for their client. They will be paying attention to how strong your contract terms and conditions are and assess a value for each contract. This is where it’s essential for you: an agreement with solid terms and conditions could be worth 40x RMR, while weak terms and conditions may be worth less than 20x. I told you I could double your business valuation.
Large systems integrators have the resources to write contracts at will, but what about the rest of us?
You could always spend money on lawyers to write custom documents, specific to your business model, as long as you have the time and money; however, there is a better way. Flick through any self-respecting trade journal, and you’ll come across advertisements for lawyer services specific to our industry. Hang around PSA TEC long enough, and I’m sure you’ll be approached by one.
Our industry lawyers have boilerplate contracts ready to go. Some providers are Johnny-come-lately’s but, some have been writing these documents for forty-plus years. While most are tailored to the alarm industry, particularly the residential market, they do seem to have all the right clauses to protect a commercial enterprise. What I found attractive about the more established lawyers is they have a proven record of defending their terms and conditions and proudly display their wins on their websites.
Once you’ve selected and paid for your boilerplate, read through the clauses, and question the writer if you feel a phrase or two does not apply to your situation.
A tip here; make your suggested changes in a Word document that is set to track changes. The law firm is not going to entertain your proposed changes without this, as it would take them too much time to compare documents.
There will be an alphabet soup of terms and conditions you’re not familiar with: Subrogation Waiver, Assignment Provision, Exculpatory Clause but, a good portion of the document will have ordinary sentences that describe what you do and how you do it. You must understand, as much as possible, as you will have to guide your staff on the implementation and enforcement of your new legal framework.
If you make changes to a boilerplate, have the documents checked in the final draft. You’ll be surprised how a misplaced typo can change the context and contractual language of your shiny new paper.
Once your new contracts are in place, set a date in your calendar to review from time to time. These documents need to stay current with technology and ever-changing law. Most industry lawyers will sell you an update service (I guess they really liked our RMR model). It’s worth paying this fee to keep current. I also find it helpful to follow their blogs (I’ve signed up to a couple of alarm industry law bloggers) as you will discover the contractual challenges of your peers.
A good managed services contracts will mitigate risk and provide a level of financial security–smoothing the cash flow peaks and troughs of your installation business. And that’s what makes a proper contract appealing to others. With the right document in hand, you have an instrument that is almost as good as cash (even banks have been known to lend based on guaranteed contracts), and your valuations will be higher.
Start now; this is a process that goes from formulating the right contract to how your people monetize that contract. From sales to operations, everyone will ultimately be involved.
When I thought about this post, I didn’t want it to be a dry and dusty article, I wanted it to be a call to action. Getting managed services contracts in place is going to be one of the best things you do for your business. And, for the business owners who read this, your net worth will improve significantly. It’s going to take you time, and hopefully not too much money, but you owe it to your company to start the process now.