MSP Client Concentration

By Ian Richardson, Principal Consultant, Fox & Crow

Preparing to sell a managed services provider is hard work. You must get your house in order in every sense of the word.

• Customer contracts
• Employment agreements
• Vendor relationships
• Financials
• Taxes
• Process and procedure.

Everything gets attention.

One of the most common risk factors we come across is “client concentration.” If it exists, it’s a blaring red flag to potential buyers. It’s the type of issue that can blow up deals and ruin a MSP’s exit.

So, let’s fix it.

What is MSP Client Concentration?

MSP client concentration occurs when you have a major account. That account accounts for a large percentage of your annual gross revenue. They’re usually a large customer in terms of seat count, needs, and project/product purchasing. They might have multiple owners, locations, and business arms. They’re usually a “good” customer. They buy routinely. Leadership is open to advice. The organization grows steadily, and starts strategic investments in I.T. on their own.

They’re also a problem. They control, via their services agreement, a significant part of your revenue. Your revenue is “concentrated” in the client – hence the term. When it comes to MSP M&A – the buyer’s viewpoint is straightforward. This client represents a risk to their potential investment. They must be addressed before the transaction.

What MSP Client Concentration is a problem?

We follow a Yellow Flag, Red Flag mentality with regards to due diligence. Yellow Flags aren’t deal breakers, but they deserve an optimization plan. Red Flags are “stop the train” situations. Without some plan of action, you’ll get a discount on your exit, or have no exit at all.

Yellow flags are significant single digits of revenue. The rule of thumb is greater than 5%. So if you make $100, and a client pays you $7 dollars, they’re a yellow flag.

Red flags are double digit revenue holders. Above 10%, it’s a red flag. We came across an MSP that had a single account that represented over 50% of their annual revenue! Huge M&A red flag – even if the account is “super happy” and “would have a real hard time leaving.”

How to mitigate MSP Client Concentration

We’ve a simple process around lowering MSP client concentration risk that will help you on your M&A journey. I’ve laid that process out below.

1. Determine Client Concentration. Take Annual Revenue per client and divide it by total revenue. Multiply by 100 to get percentage of total revenue.
2. Flag clients. Above 5% is yellow, above 10% is red.
3. Document Key data. Client CSAT, adherence to standards & IT Plan, Contract Status, Acquisition Date, etc.
4. Determine profitability of each customer account. Make sure you are making money from these accounts.
5. Create an action plan for your unprofitable accounts, including your flagged accounts. Consider performing some or all the below actions.
6. Adjust rates up 3-7% for Inflation / Cost of Living.
7. True up the accounts (Seat counts, devices, licensing, etc.)
8. Cross-sell/Upsell the account on services offered but not consumed.
9. Audit the account’s usage of services provided. Cut unused services to save COGs.
10. See what optional projects or products you could sell to raise profitability for the account in the short term.
11. Approach your accounts, starting with the least profitable accounts first. Get them to a state of profitability or shed the revenue.
12. Develop a net new logo acquisition strategy. Execute this strategy until all “red” accounts are “yellow” and all “yellow” accounts are not flagged.

This process isn’t a “quick win” strategy. You’ll need 12-24 months to fully execute and recognize the results from it. If you’re thinking you might need help, Fox & Crow can help. Book a call to run through your specific situation at https://foxcrowgroup.com/contact