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4 Key Drivers That Enhance the Value of Your Business

Dec. 12, 2022
There are key characteristics exhibited by quality MEP sellers that result in favorable M&A outcomes.

With economic uncertainty creating an everchanging marketplace, many services businesses have experienced new challenges over the past year, particularly those in the Mechanical, Electrical, and Plumbing (MEP) sector. Early in the year, labor shortages and supply chain disruptions drove increased labor and materials costs, while in the back half of the year, the MEP industry has been experiencing slowing building and renovation demand. It is no surprise profit margins are constantly fluctuating for many business owners in the MEP sector. 

Despite these economic challenges, strong, growing, and profitable MEP businesses are still in high demand with buyers searching for mergers and acquisition (M&A) targets. In fact, the MEP industry is still seeing widespread acquirer interest—from new-build-focused companies to renovation-focused businesses within both residential and commercial end markets.

Private equity acquirers like Monomoy Capital Partners and Gladstone Investment remain bullish on residential housing contractors, building products, and services due to an anticipated, prolonged housing shortage (even with elevated interest rates). Gladstone most recently acquired Dema Plumbing, Denver’s largest new construction residential plumbing services contractor, a transaction in which GLC Advisors acted as Dema’s exclusive financial advisor.

Our team sees a more normalized M&A environment in which quality sellers are being courted by acquirers that currently hold record amounts of dry powder. For MEP businesses looking to grow by aligning with a new partner or are starting to plan for an exit, there are key characteristics exhibited by quality MEP sellers resulting in favorable M&A outcomes.

1. Consistent Profitability and Track Record of Success in All Economic Environments

It shouldn’t come as a surprise that often the most important characteristic an acquirer looks for in a company is long-term sustainability of profit margins. Profit margins, in today’s environment, are more critical than ever to showcase a historical track record of success and growth in any economic environment.

Strong profit margins demonstrate long-term, quality customer relationships, a differentiated service approach than competitors, leading market share position, and tech-enabled or tech-supported solutions—characteristics that thrive in economic expansions and withstand recessions. Acquirers like strong profitability that provides a high return on capital, cushion for “bumps in the road,” and  minimal outside capital investments needed to achieve future growth goals. We strongly advise businesses to have a defined plan for maintaining profitability and a detailed financial forecast model with scenario analyses to demonstrate outsized profitability. 

2. Deep Management Team, Tenured Culture, and Self-Perform Capabilities

Culture is a commanding force in M&A and a central determinant of an acquirer attributing premium pricing to a seller. MEP businesses are human capital intensive, and to acquirers, a strong culture, highly tenured staff, and deep leadership bench demonstrates low turnover and minimal new hire cost, leadership continuity post-transaction, and the ability to grow headcount quickly as the business scales. As the saying goes, “a business is only as good as its people.” If staff demonstrates a track record of being operationally effective and growth-oriented, an acquirer can expect staff to continue to do so under new leadership.

For all the technical analysis and financial due diligence in M&A, business owners too often overlook the importance of the management team. A qualified and capable team of operators creates an efficient, profitable, and successful business without depending on the owner. An acquirer wants to continue to scale the business and looks for a management team to continue to run the business when the transaction closes under new ownership.

Before selling a business, there is enormous value in developing a robust management team that performs day-to-day operations (without the owner), ensuring the company has leadership continuity under new ownership. If an owner controls all aspects of the company, there is more risk for a buyer that the customers, staff, and success are tied to the owner. This dynamic results in a lower valuation for the seller.

Many MEP companies, especially those focused on new construction markets, rely on some form of subcontractor relationships to complete projects. Subcontractor-heavy MEP companies tend to produce lower margins, have less control over quality, and are less differentiated than competitors in the market. We see more excitement from acquirers when sellers have significant self-perform capabilities with in-house teams completing on-site work driving higher margins alongside higher quality, differentiated services.

3. Recurring, Diverse Customer Base and Broad End Market Exposure

Sellers with recurring or “re-occurring” revenue models and a diversified customer base are more appealing to strategic acquirers due to the value of a visible, predictable revenue model. These revenue models produce fewer fluctuations in business results, lower downside risk, and forecast models aligning more accurately to actual results.

Contracted, recurring customers are more favorable than one-time project customers. However, one-time projects from repeat customers are viewed favorably and are considered re-occurring revenue. Acquirers view recurring and re-occurring revenue from repeat customers as predictors for future success.

Further, a diversified customer base significantly increases the value of an MEP business. Customer concentration, or reliance on a small number of large customers, introduces risk of losing significant revenue upon the loss of a single customer. In today’s market, acquirers are less risk tolerant and mitigate risk in the form of seeking sellers with many customers from a broad range of end markets. Specifically, when a single customer accounts for more than 25% of revenue, the impact on value is substantial.

Year-round end markets or a portfolio of end markets that balance out seasonality are key to achieving significant acquirer interest and premium valuations. Broadly speaking, cyclical and seasonal end markets also introduce more risk and decrease predictability in revenue forecasts—negatively impacting the value of a business.

4. Possessing a Compelling Story

Serial MEP acquirers see a multitude of acquisition opportunities each year and identifying opportunities that are “must have” can get lost in the shuffle if not appropriately positioned. When taking a business to market, acquirers want to know “the story” or the elevator pitch.

Financial advisory firms such as GLC Advisors have a demonstrated ability to bring to light MEP clients’ acquisition highlights to acquirers’ attention that are often overlooked without financial advisory counsel.

Examples of highlights our team has demonstrated in the market (that would typically be overlooked without an advisor) include: i) significant customer concentration that actually demonstrated highly loyal, blue chip customers that were re-occurring; ii) strong, long-term profit margins translated into pricing power and attributed to a top regional market share, as well as the only MEP services provider to take on the region’s largest projects; iii) higher than peer profit margins were the result of in-house self-perform teams that providing ongoing contracted maintenance services in addition to project-based revenue.

As owners and leaders of MEP companies consider taking their business to market, it is critical to consider not only the impact these drivers will have on the success of an outcome but also the support a financial advisory firm such as GLC Advisors can provide to sellers to achieve the best possible outcome.

Michael Richter is a Managing Director and Co-Head of the Business Services and Industrials Team at GLC Advisors. Michael has dedicated his career to advising business owners across a wide range of industries on mergers, acquisitions, debt and equity financings and strategic advisory assignments. His passion for assisting entrepreneurs has led to the highest standard for providing hands-on, senior level advice, which has resulted in the ability to consistently achieve outlier results.

Adam Fiedor is a Managing Director and Co-Head of the Business Services and Industrials Team at GLC Advisors. Adam has over two decades of transactional experience ranging from mergers and acquisitions to private capital raises for various middle market companies. He is a strategic advisor to entrepreneurs and management teams with a demonstrated history of creating value to all stakeholders. He is passionate for assisting entrepreneurs in navigating the complexities of M&A and capital markets.

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