Best Financial Practices for MSPs

CHANNEL PARTNERS CONFERENCE & EXPO — MSPs constantly hear about the best financial metrics they should focus on to be a prime acquisition target during these times of white-hot M&A activity. What MSPs don’t always hear is that they should follow those same guidelines even if their companies are not on the block. Those should be part of an MSP’s daily best financial practices in building a rock-solid, sound business.

MSP Toolkit’s Len DiCostanzo

A group of top IT veterans recently met at this week’s Channel Partners Conference and Expo’s “MSP Mentor: Accelerate Your MSP” workshop, part of the MSP Summit portion of the event. Led by Len DiCostanzo, CEO of MSP Toolkit, the panelists shared the key financial metrics they focus on when choosing an acquisition target, a business partner or running their own business. The executives discussed many of the basics – revenue, EBITDA, MRR – but added their own perspectives and nuanced insights on the challenges and importance of those metrics.

Fast-Growth Companies Grab Attention

Neil Medwed, who has overseen 11 acquisitions in about two years as vice president of corporate development and M&A at Meriplex, looks for companies that are growing revenue and profit in a variety of areas.

“An organization can have lots of top-line revenue, but what’s flowing to the bottom? How much is recurring revenue, professional services, product revenue, Office 365 Azure versus something else?” he said. “We really analyze numbers. We’re looking for organizations that can successfully manage their employee account. There are a lot of bloated companies out there that have way too many employees for what their actual needs are.”

MSPs looking to strengthen their finances should always be seeking opportunities where they can increase revenue, operations and employee productivity. They should also look at decreasing their risks, reviewing and replacing underpriced contracts, and updating their tools. Monthly forecasts can also help MSPs keep track of different elements and buckets.

“Look at what you can do to drive the bottom line,” said Larry Cobrin, founder and CEO of MSPCFO. “The answer is different for every MSP.”

Many MSPs Are Losing Money

While many MSPs are growing and improving key financial metrics, Peter Kujawa, vice president of Service Leadership, is amazed by the amount of MSPs he benchmarks in the company’s quarterly reports that lose money. In the first quarter, 31% of MSPs he surveyed lost money. That was actually better than the 36% that reported losses in the previous quarter. Profitability among the top quartile of MSPs he surveys is about 24%.

“You can make really good money in this industry; there is a model for it that works,” Kujawa said. “But you really have to understand your data; you have to understand what drives profitability.”

One of the main ways they lose money is through poor management of their service gross margin.

“There’s a lot of leakage there. Your service gross margin is where most of your expenses are: the cost of your service team, your employees, your tools. It’s about pricing and packaging and how you go to market,” Kujawa said. “Pay really close attention to the size of your team, your efficiency, what you’re paying your people. All of those things make a huge difference. It’s the single most important metric that we advise an MSPs to start with to improve their profitability.”

Best Financial Practices: Start With One

When trying to improve financial metrics, Cobrin suggests focusing on one area at a time.

“The first thing you need to focus on is not the forest but the trees,” he said.

By focusing on the three or four least profitable clients, MSPs typically increase their revenue by 10%.

“I’ve seen that time and time again,” he said. “You really need to look at each client individually.”

Another way to course-correct is to regularly review accounts and service contracts – including legacy contracts that may have been ignored over the years – to adjust for inflation and other cost increases. MSP typically increase three-year contracts by about 4-5%, the panelists said.

Contracts should be generating about 30% gross margin. If they’re not, MSPs are most like losing money to sales and other expenses. The panelists also recommended joining peer groups to come up with new ideas to improve financials.

“There’s a lot of little things you can do that will make a big difference,” Kujawa said.