How to get a good price when selling a staffing firm
By Craig Johnson
If you are interested in selling your stafﬁng business; it’s a good idea to start planning in advance. Revenue growth, a diversity of customers, strong management team and a focus on temporary stafﬁng over perm all help raise a stafﬁng ﬁrm’s valuation. However, even if you are not looking to get bought out, it could be a good idea to follow the same principles.
So how do you get the best price for your staﬃng ﬁrm when it’s time to sell?
We asked experts in the ﬁeld about how to increase a staﬃng ﬁrm’s valuation. Here are their recommendations.
Growth Is Critical
Valuations in the staﬃng industry are primarily based on a multiple of a company’s last 12 months of adjusted earnings before interest, taxes, depreciation and amortization (EBITDA); although material variations from year to year may call for a diﬀerent method. Consistent revenue growth and profitability — and a credible plan for continued growth — are among the keys to a good valuation.
“Growth is key, and if you’re under- performing the market, you’re going to get penalized,” says Rick Wilson, managing director of Crutchﬁeld Capital Corp. Buyers like a ﬁrm that has outperformed the market and there’s some certainty it will continue outperforming. It helps if the staﬃng ﬁrm has a business plan for meeting the growth targets. “That’s what buyers pay premiums for, they want growth.”
Strong gross margins are also very important and indicative of how your clients view your services, says John Niehaus, director of staﬃng M&A services for Duﬀ and Phelps. “Buyers want to acquire companies that have higher-than-average gross margins within their segments as companies with higher margins and markups are typically perceived as better quality ﬁrms,” he says.
Sustainable proﬁtability ranks high on buyers’ radar as well. And if a staﬃng ﬁrm owner simply stops investing in a business during the months leading up to a planned sale in order to make it appear more proﬁtable, buyers will see through that, Niehaus says.
Owners should watch their markups and gross proﬁts, says Al De Bellas, president of De Bellas & Co. “The importance of gross proﬁts cannot be overstated.”
Strong management team. “You’ll get a better valuation based on the quality and depth of the management team that’s going to be staying on post transaction,” Niehaus says. “Just from the personnel side of the business, you as an owner have to deliver the team. … If you can’t do that , it’s going to impact valuation.”
Owners should make sure employees have employment agreements with non- compete/non-solicitation agreements in place, he says. In addition, owners may want to set up long-term compensation plans that incentivize key staﬀ members to stay in place after a sale.
Further, Wilson says staﬃng ﬁrm owners who plan to leave after the transaction should strive to organize matters such that the organization can run without them. It’s important to have a proven No. 2 person in place who can run it.
Brooke Hollis, president of Hollis Associates Acquisition Advisors LLC, says when he was selling his own staﬃng ﬁrm, he hired a chief operating oﬃcer and moved into an oﬃce across the street from the ﬁrm. That allowed the COO to run operations but still provided Hollis a chance to keep tabs on the ﬁrm, and made the ultimate buyer more comfortable with the transition.
It can also be a good idea for an owner to remain involved with the ﬁrm for a period after the sale, Hollis says. “It’s reassuring for the buyer to have the owner or owners say they are committed to staying involved for a reasonable transition period or to retain some ongoing ﬁnancial or ownership involvement,” Hollis says. “The employees feel more comfortable and the buyer feels there’s much less risk around.”
A good transition plan will also help owners who would like to exit the business more quickly, Hollis says. The more of a transition plan that has been put in place, the less the transition time the new owners are likely to want.
Diversiﬁed customer base. One of the biggest drivers of value is having a diversiﬁed customer base. If a small group of customers represent a major source of a ﬁrm’s revenue, the departure of one of those customers could leave the ﬁrm in bad shape.
Buyers of staﬃng ﬁrms are concerned about risk, and buyer concentration “is clearly not going to be a characteristic that’s going to be perceived as low risk,” Hollis says. If only a few clients make up a larger percentage of your customer base, this normally is a signiﬁcant concern to buyers, he says.
But it’s not just about having multiple customers. Having these customers spread across a number of diﬀerent industries is helpful as well.
De Bellas says it beneﬁts staﬃng ﬁrms to have a diverse industry base. Some staﬃng ﬁrms ran into diﬃculty when the recession began because their customers were concentrated in industries that were slammed by the economy, such as mortgage banking, commercial title and housing.
Avoid too much perm. If more than 10 percent of a staﬃng ﬁrm’s revenue comes from permanent placement, it can signiﬁcantly impact valuation, says Jack Lyons, president of Lyons Solutions. Temporary staﬃng revenue is considered a recurring revenue stream while perm is not. “If they are temporary-oriented rather than permanent- oriented, they are going to be much more marketable,” he says.
Niehaus says direct hire revenue also tends to evaporate more quickly during bad economic times. “When contract catches a cold, direct hire catches pneumonia.”
Direct contact over VMS. Buyers of staﬃng ﬁrms also tend to prefer direct contact with their customers rather than business that goes through a VMS.
“It’s hard to avoid having VMS as part of your business,” Lyons says. “But if VMS is all of your business, margins get really squeezed and is not as attractive to buyers.”
Direct client relationships, though, are perceived as less risky, typically result in a better gross margin and equal a better valuation.
“Being able to walk the halls of the accounts with direct access to the hiring managers is deﬁnitely preferred,” Niehaus says.
Workers compensation. A good loss control plan for workers’ compensation can help staﬃng ﬁrms obtain a better policy and reduce costs, De Bellas says. “You can’t do enough loss control.”
Is bigger better? Larger ﬁrms are typically more attractive to buyers, Niehaus says, because they tend to have a longer track record and are perceived as less risky to acquire. “Larger companies typically have a much higher quality of infra- structure, procedures, management depth and talent,” Niehaus says. They are also less likely to be dependent on one or two people to run them, and they tend to have a broader and more diverse base of customers.
Hollis says while scale and multiple oﬃces can be an important asset for potential buyers, a number of underperforming branches is not a good thing. Prior to considering a potential sale, staﬃng ﬁrm owners may want to bite the bullet and close underperforming branches and redeploy productive staﬀ where feasible or come up with a plan to improve business at those sites.
Avoid being a ‘C Corp.’ To maximize after-tax proceeds, a company should be an “S Corp.” or an “LLC,” Lyons says. Staﬃng ﬁrm owners should avoid organizing their ﬁrms as “C Corps.”
De Bellas says “buyers can buy stock of a C Corp. but generally they pay less for stock of a C Corp. because they give up the right to amortize the goodwill for tax purposes over a 15-year period.”
Orderly ﬁnancials. Financial records should be in good shape, and it’s ideal to have ﬁnancials prepared by a certiﬁed public accountant following Generally Accepted Accounting Principles (GAAP) standards, Hollis says. “It just makes it a lot easier if you had a CPA prepare the statements that will be reviewed by other CPAs during due diligence,” he says. And the further back the CPA prepared ﬁnancial statements go, the better. Having at least a full year of audited ﬁnancial statements ready to show to buyers is also a good idea.
Wilson says an owner not looking to sell should still run the company as if they plan to, and they should work to minimize “add-backs” to EBITDA. An add-back is a nonrecurring expense or certain types of expenses that won’t continue after the staﬃng ﬁrm is acquired — such as the excess salary of the owner.
Find the Right Buyer
Not all buyers are created equal. Some will pay more for your ﬁrm than others and with much more favorable terms.
“You’ve got to ﬁnd the buyers where your company ﬁlls a strategic need for that buyer, because that will motivate them to pay the highest price,” Niehaus says. “How will you ﬁnd the best buyer? Better hire an investment banker that knows the staﬃng industry and who the most active buyers are. Having multiple buyers involved also will improve your chances for yielding the best possible valuation.”
Having a list of people who may be interested in buying a staﬃng ﬁrm is one thing, but an M&A specialist can help home in on the best buyers, Niehaus says. And who the best buyers are changes frequently.
It’s also important to sell to someone you can trust. “If you’ve got a question in your mind about whether this buyer is going to pay you, don’t sell to him,” Lyons says.
In the end, it can also come down to the timing of the sale. The further ahead a staﬃng ﬁrm owner prepares for a sale, the better it may work.
Preparing three to ﬁve years ahead of a sale can allow a ﬁrm to do a bit more planning, Wilson says. A ﬁrm can make internal changes, such as bringing in higher-powered internal workers to get things turned around if need be. Buyers like a business that has made the necessary changes and the beneﬁts are proven in the ﬁnancial results.
Planning helps put things into place. For instance, “if you’re a C Corp., it may not be too late to convert to an S Corp.,” Wilson says. It’s important to have a valuation prepared at the date of the conversion to establish the “built-in gain” for the future sale, he says. And relationships matter. Wilson advocates business owners forming relationships with investment bankers. In fact, there are those staﬃng ﬁrm owners who will cultivate a relationship with an M&A professional for years before a possible sale.
There are many advantages that these relation- ships bring. Business owners can learn what potential buyers will think about their companies as well as get information on the top two or three things they could do to increase value. “We frequently spend time with owners who are considering a transaction well into the future, and we always ﬁnd a few misconceptions they have regarding value drivers,” Wilson says. “An educated seller will get a deal done more quickly and on better terms.”
Selling a staﬃng ﬁrm is also a time-intensive process and can take six months to a year. And when the sale takes place can impact valuation.
“The best way to get a good valuation is to sell when the market is strong,” Lyons says. “A lot of people think that just because they get bigger, then they will be worth more.” However, if they sell in down market they won’t get as much for their ﬁrm.
“It’s very hard to time a top,” Lyons says, and the country typically goes into recession every four or ﬁve years. A recession can impact the valuation because staﬃng deals often include “earn-outs” where staﬃng buyers pay a portion of the selling price months or years after the sale. Earn-outs are based on the ﬁnancial performance of a ﬁrm and a recession can negatively impact that performance. Lyons says earn-outs can be a substantial portion of the purchase price.
In most instances, selling your staﬃng company at a competitive price is a long-planned process. It makes good business sense to keep in mind the recommendation made by our experts as you prime your ﬁrm for sale.
Craig Johnson is managing editor, staffing publications, at Staffing Industry Analysts. He can be reached at firstname.lastname@example.org.
Why People Buy
John Niehaus, director of staffing M&A services for Duff and Phelps lists four primary reasons for buying a staffing firm:
- To fill out their geography. A buyer may desire to have operations in a certain geographic market and it would be easier to acquire an existing firm than start from scratch.
- To fill out or add service offerings.
- To acquire new customers. A firm may acquire another company because it has a long-term direct relationship with a specific staffing user.
- To acquire management talent.
Selling a staffing firm takes a while to do properly (six to 12 months from start to finish), and there are some things staffing firm owners can do if they have even just a year to prepare for the start of a sale process.
The first things to focus on are financial reporting and tax planning, to make sure that you have very solid, consistent monthly and annual financial reports for the last three years, says Rick Wilson, managing director of Crutchfield Capital Corp. Audits are nice to have but not essential, and a third-party review of the firm is better than simply providing internal statements to a buyer.
Key people in the firm should be prepared and incentivized for a transaction, Wilson says. A staffing firm owner should under- stand what the sale process encompasses well before starting.
In addition, Wilson says he also favors having informal valuation of the business done by your investment banker. It will let a business owner know how the market will perceive his or her company. It will also let the seller know what can be done to improve the company, although only one year does not allow time for significant changes.
The Good & Bad About Earn-Outs
Earn-outs are a part of many staffing deals. Earn-outs refer to portions of a purchase price that a buyer pays based on the financial performance of a staffing firm months or years after the sale.
Al De Bellas, president of De Bellas & Company, says earn-outs generally range from 10 percent to 40 percent of the purchase price of a staffing firm.
Sometimes staffing firm owners have heard that earn-outs should be avoided at all costs, but that’s not the case, De Bellas says. Staffing firm owners should be careful when putting together the purchase agreement and learn about the ground rules for earn-outs. And De Bellas says in his experience, substantially all earn-outs have worked out well.
He says a majority of deals have earn-outs in them, although there’s a better chance for an all-cash deal in transactions with consideration above $25 million.
Other types of deals that include cash and notes or stock are not nearly as common in the staffing industry as deals including cash and earn-outs.