Even though monitoring, specifically the revenue created through the provision of monitoring services, is essential to any installing security contractor it is not the only facet to building a successful operation. It’s equally important for security business owners and managers to pay very close attention to balancing all the revenue streams generated by their businesses.
Some financial advisors say it’s a good approach to manage your business every day like you intend to sell it. Such advice is not meant to motivate business owners to sell their companies. Instead, the intent is to keep business owners focused on making sure every endeavor they undertake and every dollar they invest builds equity in their business.
Looking Beyond RMR
Although the recurring monthly revenue (RMR) aspect of a business’ income is indispensable, many owners get too obsessed with it. Sometimes they fail to realize that structuring a business that provides profitable service and installation revenue plays a big part in the overall valuation of a company.
Although many elements will affect the valuation, the fundamentals will always be the fundamentals — building a profitable business. Confusion can arise when news circulates that a portfolio of monitoring accounts was sold for a substantial multiple without understanding all the details of the company and the transaction.
It is no secret that our industry has some valuable financial resources that will simply purchase portfolios of RMR without the requirement of purchasing the actual operational entity. This happens on a daily basis and has proved to be a lifeline for many dealers. Putting this aside, I feel it is important to communicate some of these fundamentals that are often overlooked.
As someone who has had detailed involvement in acquiring and selling companies, both from a management perspective and as an independent consultant, I speak firsthand on the effects of a well balanced business.
Understanding Company Valuation
When a company is evaluated and a valuation is calculated, it usually comes down to the adjusted Earnings Before Interest, Tax, Depreciation and Amortization (EBITDA). EBITDA provides a way to measure cash earnings of a business without the consideration of accrual accounting. Once this is determined, a multiple of the annual adjusted EBITDA is calculated and this becomes the valuation and gross acquisition price of the business.
Most of the time a reverse calculation is also completed, which considers the gross acquisition price that is divided by the RMR. News of the transaction is then circulated based on what multiple of RMR was paid for the business. A variety of elements lead to the differential in the multiples of RMR being utilized.
Among the variety of elements considered are gross sales dollars and what percentage of gross sales is translated to EBITDA, growth potential, to name just a couple of factors. Building profitability will translate into a maximum return on your investment. Even if you are not planning on selling your company for many years, building value is essential. Building value gives you borrowing and bargaining power. This is important if you need or choose to borrow money for growth or other purposes, or elect to pursue extended credit from suppliers, among a host of other scenarios.
In a nutshell, by increasing your installation and recurring revenue, while staying efficient in your expenditures, you will build a higher valuation for your business.
We are fortunate to have several highly competent and informative financial advisors, consultants and accountants who specialize in the electronic security industry. If you feel your business doesn’t produce the revenue necessary to staff a full-time chief financial officer, you should consider the guidance of an industry professional who can provide these services on a contract basis.
