Making the right exit

Compared to many other industries, IT is very young. Barely a teenager in fact. That sense of youthfulness is compounded by the near-constant changes and innovations that appear with increasing frequency. Nevertheless, there’s no getting away from the fact that it’s now well over 40 years since the first PC was released. Which means that however young IT seems as an industry, it’s old enough for people to have started a career in it and to have worked in technology through to retirement.

Good luck to them. The big question is whether people starting work in IT now, or even those in their 30s, 40s and 50s, will be as fortunate. Not everyone is optimistic. A recent UK survey by Aldermore found 76% of bosses in technology SMEs were planning to work past retirement (and more than a third expected to work well into their seventies). Up to 12% believed they would never be able to retire and only 16% expected they would be able to sell their business to finance their retirement.

So, according to the survey, one in eight SME technology bosses expect to work until they die. We’ve all heard about dying with your boots on but this is more like dying while your reboot’s on.

On the surface, one of the biggest difficulties with IT businesses concerns how you value them when what they do is constantly changing. The emergence of cloud and as-a-service, for example, is going to change how IT companies are valued. It also makes them potentially more vulnerable to competition from new small entrants as well as bigger, more established companies. Given this seemingly perilous state of affairs, what can SME technology owners do to ensure they can retire if they want to?

Tom Wells, partner at Arma Partners, says the value of IT services businesses can be higher if there’s a technology foundation to the business. If it’s enabled by software, the technology foundation is “pretty self-evident, there’s some form of code or innovation which has been created to deliver the services”. Other questions are whether the innovation is defensible against competitors: “Is it unique, patented, can it scale?”

But he adds that “the underlying software or technology is not necessarily the only important value driver”. In B2B, contractually recurring revenue can be a significant source of value. It’s about the development of the customer base, “who are they, how many do you have, how much money do you make from them?” Wells points out that “building a long term sustainable customer base is a significant source of value”. 

And while pure cloud is grabbing the headlines, that doesn’t mean more traditional businesses can’t transition to cloud. “If you provide a service and you helped people build legacy infrastructure in the old world and you’re well known and trusted, the value of that trust has not gone away in the new world,” Wells argues. “For people to shift to a nameless, faceless, global cloud provider, there has to be a pretty good reason. It’s either a better product, it’s cheaper or (more unlikely) it’s able to support the customer in a better, more comprehensive fashion.”

Ross Fabian, partner at chartered accountants, HW Fisher & Company, says there is a great divide in the tech world between developers of a new piece of tech who are “very focused on selling their business – their exit is their payday after all” and IT channel entrepreneurs, where the situation is “less clear cut”.

The main reason for this difference, he notes, is value. “An original, proprietary piece of tech has the potential to generate recurring revenue – and thus an obvious value to its owner. But for IT service, maintenance or consultancy companies, it is harder to build sufficient intrinsic value in the business to attract would-be buyers.”

So what should you do if you’re the boss of an IT service, maintenance or consultancy company? “If you’re in this position, the key is to add value – and longevity – to clients,” Fabian argues. “In crude terms, the better the clients, the longer the client list, the ‘stickier’ the clients are, the more attractive – and valuable – the company will be.  This is why recurring revenue and subscription models often result in higher valuations.”

He agrees that “the advent of SaaS has commoditised many core IT reseller and support services, but SMEs that have their own software are less vulnerable to this threat. Anything which secures user acceptance – and then user reliance – is vital in terms of client retention and value creation”.

One of the big difficulties with smaller businesses is that their identity can often be completely intertwined with their owner. Frequently, these types of businesses will be dominated by the owner of the company. In some cases, potentially worthy successors may have left or felt forced out because they saw little prospect of advancement at an organisation where the owner had too tight a grip on the reins.

Owners may not be unaware of their overwhelming control of their organisations and they may not understand that their unwillingness to allow others to take on responsibility can be injurious to their companies in the long-term. In some smaller businesses, the owner and his or her relationship with the customer may be the only value they have. And they may be reluctant to allow others within the company to become engaged in that relationship.

In this context, Fabian says it’s important to understand that the value of a business “should reside in the company, rather than just its owner”. It’s all well and good having an inspirational leader, “but if the owner is the business, prospective buyers will worry that a change at the top could kill client loyalty. Such a risk will either drive down the valuation or put off buyers altogether”, he warns.

Potential buyers are not going to be attracted by the notion of paying money for access to customers whose relationship is with an individual about to leave the organisation they are buying. And you can see why. The customer relationship has to be with the company for the value to reside in the business when it has been acquired.

It’s like a soccer team. When someone buys a club, they’re buying everything that comes with it and that includes the players and the loyalty of fans that go to watch the games. What no one wants is to take over a football club only to find out that after the star player retires, he was the only reason most of the fans were going to the games.