Considering Buying An Integrator. How Much Should I Pay?

Ive come across an interesting opportunity.

There is a small integration company for sale not too far away. 3 hours or so drive, logical location for expansion.

4 employees including the owner (who does all the selling and has for 20+ years). approx $700-800k in revenues, gross profits of about $250k (including labor costs). One truck, some inventory, he or she calls it $10k worth of inventory. Net earnings seem overstated a bit so I wont go into that part of it. Zero marketing expense should be noted though.

Existing purchase orders are staged over the next couple of years worth approx $900k in gross revenue at substantially the same margin.

Owner willing to stay on for a year to help transition then retire. 2 full time techs and one part time tech.

Zero traditional RMR, but lots of ongoing purchase orders for multiple locations. A massive portion of his revenue comes from 3 clients. past three years appear pretty stable.

I believe it is grossly overvalued at the asking price, but, Im curious what others here think this company is worth.

This report on How To Sell Your Security Integrator from last year may be of some help.

Im familiar with that, thanks Brian.

Interesting here is the net profits are much larger than usual, but there is a distinct risk in that 3 clients make up such a large part of the revenues. Was curious what other people thought if they had to put up their own theoretical benjamins.

Yes, the net profits did strike me as unusually high (as you noted). Is this consistent enough to be a trend (say, 3+ years consistently)? Do those customers know the business is up for sale, and would they be willing to talk to you about future outlook? Is there any chance to get them into some kind of service agreement to help lock up future business for a while?

three years history, fairly consistent, within 100k of each other, no trend. down once, then up.

Three largest customers have long term purchase orders for multiple locations new installs going out two more years. financials appear to be cash basis so they would not take that revenue into account.

A business that small with such highly concentrated revenue presents significant risk. Lose one of the clients. Lose one of the employees. Business goes down 30%, 50%, etc.

The challenge here is that if the owner thinks s/he is making a lot of money doing his thing (which the reported high net earnings implies), s/he will reasonably ask for a high valuation since they will think "Why would I take $500,000 for the business if I make $250,000 a year, etc." But the issue for you is 'Why I would pay $1.5 million for a business that might be worth nothing once the owner leaves?"

I am looking forward to what others recommend here. Could be tricky.

That was exactly my feeling. I'm going to meet with him. However, I don't think there's a deal here without some major adjustments.

At a minimum id have to hire a sales person. Roughly 80k to sell exactly what this person sells now even if there are existing purchase orders forthcoming. That brings the cash flow down noticeably. One missfireason and it's over.

The response here has been surprising. I'll read thru and reply. For the record, I have not put out what the asking price is. This 1.5M being thrown around would be a GROSS over valuation.

So true, the loss of a key player could be devastating.

Too risky. Let's say the lead tech isn't happy with the purchase and leaves the company -gets offered $5 more an hour from a competitor, or decides he was really the one largely responsibe for the companies prior success and starts his own thing. Now you just bought a mid level $15 an hour tech and a few customers for $1.5M. You could have organically entered this market with a GM, salesman, couple techs/trucks, project specialist and still spent FAR less.

"You could have organically entered this market with a GM, salesman, couple techs/trucks, project specialist and still spent FAR less."

Especially since the OP is already an integrator with an operation somewhat close by.

Why not just set up shop in the new town, and have both locations build new biz toward each other? Easier (logistically) than opening your 2nd location across the country at some point...

To the OPs dilemma, if you buy the existing gig, how you do things and how they do things might not be aligned - further putting you at risk for all the reasons others have stated above.

Or one of the big three customers might have a decision-maker whose niece just landed a job out of college with a manufacturer you compete against...

Or one of the big 3 customers has already made some ridiculous demand and the long-time owner finally had enough..etc.

There is no way to know, really. Which, imo that is not so humble (imotinsh), makes it a bad bet. Or at least far riskier than I personally deem acceptable.

I see the dangling 'potential' of concurrent future years at the same billable rate - it's what the seller is dangling and pointing to after all - but there is nothing proprietary to be gained from the purchase, no IP, and therefore little guarantee of anything at all.

If you do it yourself, you control your own destiny... if you buy the 'potential' for a windfall, it may flutter away on the wind - completely beyond your control.

That's my (Undisclosed) take anyway.

sidebar unrelated to the rant above: what was this sellers growth rate over the ~17 years prior to the 3 outlined in the OP?

Unknown at this point. Only 3 years info was offered.

If you do it yourself, you control your own destiny...

On the other hand, doing it yourself in an area 3 hours away is challenging. You need to manage your own business plus you are trying to take away business from an incumbent in a different region.

Without question.

There is no magic eight ball answer here, just differing approaches and opinions.

Everybody has different comfort zones when it comes to risk.

question: is there some accepted valuation norm that simply factors the numbers in these kinds of transactions? i.e. 3x gross sales, 5x net or whatever?

Is there some accepted valuation norm that simply factors the numbers in these kinds of transactions?

From How To Sell Your Security Integrator

There are many factors that can affect the valuation of a typical integrator, but a rough estimate would be 0.5 times annual sales for an average integration business. A more precise valuation, and the method an acquiring company would tend to use would be to pay a multiple of the operating profit of a business (on average 4-6x times) with common operating profit margin being 10-15% of revenue.

This of course assumes you are buying an operation that exists and can operate entirely in its owners absence.

The initial reply above by Brian is a link to survey regarding exactly that.

Which brings me back to the original question... what would you pay? (Colloquial you)

1x revenues?

3x revenues?

5x revenues?

1x gross profit?

3x gross profit?

5x gross profit?

5x net profit?

Where do you get tempted by this offering?

what would you pay? ... Where do you get tempted by this offering?

I'd only consider the deal if it was paid out over a long period of time contingent on ongoing performance of the business. No way I would even pay $500,000 up front, too much risk for such a small company.

It's not like you are getting a well known brand or unique IP or a sophisticated operational system. That's not to say it's a bad business but it's the type of business that's better to partner with a junior employee, give them an equity stake, keep the business running long term and make money passively as the semi-retired 'founder'.

I'd only consider the deal if it was paid out over a long period of time contingent on ongoing performance of the business

I could not have said it better myself.

When I was in the office equipment business, I bought several small guys out. I didn't really buy their business, I bought their job. I remember a few accounts that gave us such a hard time. I had one lady refuse to pay a service ticket until she spoke to the old owner.... ugghhh

Good Luck. Structure it properly for a win/win

Agreed but without the existing purchase orders and assumed service income.

The technicians do have some valuable licensing. This operation is in a border town which provides expansion potential beyond the current state. Bordering state has a not trivial regulatory burden to entry. Some ancillary thoughts to consider. However, it is not a market I particularly like.

And you won't have problems with the AHJ doing jobs in the next state over?

As we currently are we would have to hire techs with certain state issued assets before we could go into that market. Or undergo an expensive process with our current techs. The assumption is the existing guys have a relationship with the AHJ in that place and those "assets."

On the other hand, expanding in a different geographical direction would not be as much of a hassle.

The asking price is attractive when looked at from the incoming ongoing purchase orders perspective. Technically, the profit from that should pay for the business in full, but then there is the salary (undisclosed) to keep the current owner around for a year and the cost of hiring his replacement. Then the big question... what is left after these purchase orders are fulfilled? From what I can tell, there is not marketing in place and no brick and mortar location, no real goodwill because the owner is the only sales person.

In thinking more about this, it seems like you have an opportunity to purchase a fairly basic small integrator outfit, with the possible upside of some higher than average gross profits for at least the next couple of years.

It seems like the owner's primary motivation for selling is retirement, and not a recognition that his business is in trouble (though it is always possible they know something they are not telling you).

There is some upside for you in terms of expansion opportunities, but also a lot of potential headaches (no surprise, I'm sure).

With the above in mind, I would probably offer something along the lines of $300-$350K upfront for the business, agreement to keep the owner on for another year at current salary, and then an earn-out that is tied to maintaining the above-average gross profits for a couple of years.

Structuring the deal with a variable earn-out should prevent you from having to accurately predict the future of the business. If the business has the future earning potential it claims, they will reap the benefit of that, if it does not, you will not have overpaid for it.

Part of the deal would also cover anticipated expenses that you would take on, (lease a new location, purchase additional vehicles/equipment, etc.) so that they do not accuse you of just spending all the profits to cheat them out of their earn-out.

There is an undefinable risk in buying small companies, and that is the personal relationships that center around the owner, or a dominate person in the operation. Back in the 90s I worked for Tyco, and at the time they were on a buying binge. They bought large industry players like Simplex and ADT, but they also bought many dozen, mom and pop operations, primarily in the sprinkler business. It was not unusual for a 100% staff turnover a year after the small business purchase. Employees did not like going from a small business with their personal relationship with the boss, to a very structured corporate business model. Too many times, all Tyco had to show for a purchase was some inventory and a few of the customers, that did not follow the old employees to their new employer. And Tyco was in the business of buying businesses.

This is not to say that you will have the experience as a large multi-national corporation, but there is a people risk that you can’t evaluate. So, pay close attention to the down side, and think about how you will deal with issues that are 3 hours away. When things go south, you will be forced to decide where to spend your resources. Focusing on a failing remote office can affect your present business and family life. All that said, perhaps the best way to mitigate the risk is to put a trusted employee in charge of the office, as John suggested. If you don’t have that type of talent, perhaps you should start grooming that talent for a future opportunity?

I think it is risky .The revenue is small ,gross profit is not satisfactory compared with the cost.Number of customer is limited .This business can be constraint due to the loss of 1 employee or 1 customer.

1.5x-2x net if the owner stays on for a long transition period for accounts. The owner is the salesman and that is sole the value of that business. To be honest, you would have less risk just putting out 150k of your own money to recruit a senior salesman and bootstrap. 800k run rate is light for a 20 year vet.

Some key considerations include,

-The distance from your central headquarters location - Three-hour trips to get this company integrated into your business may be taxing.

-Where is the market for the proposed company? Does it a line with your current company's product and service offerings?

-What are your goals for this company? How do you see it growing? (And, why hasn't it grown in that manner already?) Does this acquisition fit with your vision for your company's future?

The last consideration is critical. Before making a final buying decision, get a plan for this business. Then, estimate the gross profit at your projected goals. Then, identify what break-even date and return on investment over the first five years. Only then can you come up with a buy/don't buy decision. This will guide your offer.

While there are many concepts on the valuation of security companies, smaller integrators will be outliers to most if not all of the standard models.

Last note, conduct thorough due diligence regarding inventory, existing contracts, approved but not started work, and proposed work. Make sure it is all real.

Hope this helps.

David Coughlin