Mike Harvath, Matt Lockhart, and Ryan Barnett discuss the evolution and significance of reselling in the IT services market, including its origins, current trends, and challenges.
This conversation highlights the importance of reselling in the tech-enabled services industry and the need for strong relationships between resellers and vendor partners.
Some highlights of this episode:
Mike Harvath 00:05
Hello and welcome to this week's Shoot the Moon podcast broadcasting live direct from Revenue Rocket world headquarters in Bloomington, Minnesota. As you know if you're a regular listener and maybe you don't if you're not Revenue Rocket is the world's premier growth strategy and M&A advisor to IT services companies. With me today for this conversation on my partner's Ryan Barnett and Matt Lockhart. Welcome, gentlemen.
Matt Lockhart 00:31
I think it's a great conversation. I know I can't steal Ryan thunder in introducing it, but I'm excited for it. Also excited for our hometown, Minnesota Timberwolves go Wolves moving on in the playoffs. And most excited, have had a number of conversations this week, guys. And I think that consensus is the market is back the the amount of deal flow and activity and interest in our space. And the tech enabled services base is humming. And talked about last year was a little bit of a slower year down year had to market forces, right. But, but boy, it's good to be busy again. Hi, guys. What's going on Ryan? Hey,
Ryan Barnett 01:19
Matt. Hey, Mike. And thanks for setting us up it Yeah, it has been busy. And we've seen an uptick in deal flow. And I think that's, that's due to some economic contribution. But also the space is something that people really want to be a part of. And today, we're going to, we're going to dive into one of the sub segments of our markets. And when we look at the IT services and tech enabled services market, we typically look at through the lens of of managed service providers (MSPs), those are typically offering a service related to it in a recurring type manner. We look at custom application developers, we look at cybersecurity providers. And we look at application integrators. And I bring that up in that if you think about these as a whole, many companies that are in our space are working with other products from technology vendors, that could be a firewall from Palo Alto Networks, it could be a cloud service offering from Microsoft or it could be implementing a Enterprise Resource Planning application from any number of different vendors that are out there. And we want want to dig into a, the importance and value of reselling in this market. And and where that where companies can play in this market and understanding the value that a buyer might look at a company that does have high levels of reselling. And Mike, you spent, you know, a big portion of your career working with resellers and you've been intimately familiar with this market. And Matt, you've spent plenty of time with a lot of partner relationships. But Mike, once you get us going, what is a a reseller? And what does that mean to be in this channel of IT solutions?
Mike Harvath 03:16
So let's wind back, go into the Wayback Machine and, and discuss how reselling began. So, you know, in the very, very beginning of our industry, and I would point to and I would say really the personal computer revolution is when reselling was born. It was started in the mid 70s Actually, it started with computer stores. And there were these sort of hobby oriented venues where people got together to you know, build computers and neither right software for the very few very few sort of products that were available commercially, to buy them and for through the 70s into the early 80s It was a fragmented market where whether you were a business or a or you know or individual you really had to be aligned with some sort of computer store, which then became called a computer reseller. And then the beginning they sold everything they sold computers and printers and this was before there really was networks and you know you ran around with discs and floppy disks and you put them from one PC to the next and printers were dedicated on PCs and then the industry continued to mature quickly until we started to have mass produced products. IBM PC and then Compaq came out with some stuff and of course Apple was there all along starting off with the The original Apple, Apple two and then ultimately the Mac. And the industry evolves and evolved to what we call a two tier distribution network where there were big distributors. And then stuff was distributed through them to individual computer resellers. And then computer resellers began to focus on b2b. And the computer store as we know, it ultimately died. Well, if we fast forward now, I mean, I guess there's a few that are run by, you know, dedicated vendors like Apple and, and, you know, HP, I guess, I mean, there's some dedicated stores that that are built built on vendor products. But for the most part, Microsoft, it's, it's pretty much gone. And, you know, b2b commerce providers or resellers took over and ultimately became much more specialized. started focusing on selling and providing services around specific niche products, whether those be accounting and ERP type products, whether they became, you know, very specific endpoint solutions, like Ryan mentioned Palo Alto Networks, as firewalls that ultimately get sold and implemented through a reseller network, whether they become, you know, other types of software or cloud software, even like in the case of Salesforce, or ServiceNow, our whatever it may be, you know, system business system, you might be running, many of those solutions are and we're sold through reseller networks, to end users, whether they be businesses in this case, predominantly, and then implemented by that reseller, or partner generally, not always, sometimes resellers just resell. And they have relationships with, in some cases, MSPs, and our current world to implement sort of in the small and medium sized business market, or other networks of implementers, which are predominantly services companies. But you know, the world of tech is, is has a lot of reseller channel relationships, as we call them today. And certainly, there's big relationships with Microsoft as an example. And you know, they're all their cloud services, or cloud service products are resold, if you will, same thing with their accounting solutions. And various sort of business solution products all have resellers that sell those products. And so hopefully, Ryan, that gives a little bit of background and history on the lay of the land from 1976 till now.
Ryan Barnett 07:59
And it's, it's an, it's a really fragmented market, I think, is one thing that when you look at, in trying to define it, and IT services, there's some value, there's some component of reselling, and it's happening at nearly all levels. And you may or working with a partner, there's very few companies that are working with just a raw technology and selling that raw technology straight to an end user. So and often oftentimes, it's because it's, this is not easy technology to implement into into, into use is not easy. So services firms that are there are able to bridge the gap between what the business needs and and the vendors that are out there that are tried to sell their solutions. So extremely value in the marketplace. And it's, it's evolved to see these major system integrators and bars, the TD sixes of the world, and the companies that are doing kind of the VAR related work, and you'll see all the way down to a firm that might have very little resell, but does 100% services work, but maybe in a very specific application. So if I think about someone who's implementing Salesforce, that's a kind of a different model of services. So there's a wide stream of where you might be sitting in that and that helps us understand where, where things can start. In the last few years, there's been a switch to more services than just reselling. And why have companies focused a bit on more on the services than the product is there? What caused that evolution, and where where might we be at in a journey from kind of a reseller who is services market. Matt or Mike feel free to jump in there.
Mike Harvath 10:09
Well, you know, from the beginning, I think there has been a vendors have been a little bit conflicted about how they go to market, whether that be through a channel, or direct. And it's been important to note that most of the major vendors have had gone back and forth like a pendulum swinging on these topics for a number of years. And it's frustrating to a reseller channel partner, do put a lot of time energy and money, frankly, into marketing a solution for resale, but then make a healthy margin and in many cases, to have the vendor pull the rug out from under them, and try to go direct or try to take the lead that they've cultivated direct, because the margin is better. And the pressure from the street is for them to perform better, or the company or the vendor. And oftentimes, that was a decision, somewhat short sighted decision, in my opinion, because certainly a lot of these channel models have built these vendors into the powerhouses that oftentimes are into the focused on taking all of the business or majority of business direct. Outside of that can be challenging. Now, there is one logical standout that's considered a gold standard for channel management where none of their partners resell the product. And that Salesforce! Salesforce from the beginning wanted to, quote unquote, control the customer, which I think is still very easy to do and a channel but that's neither here nor there. By selling all their product direct now it's sexually expensive for them to do that. But the trade off was that they would only implement these very complex solutions through their partner network. So they cultivated a channel or a partner network of services companies, ones that only implemented and they sort of stayed in their lane, and Salesforce stays in their lane and make sure they resell the product correct. And that's proven to be a pretty good thesis for both Salesforce and at the park, frankly, have allowed them to scale a business pretty quick. I think the challenge is the legacy for almost everybody else, because the pendulum swinging back and forth ultimately means that if a reseller invests heavily in a product relationship, it's probably a matter of time before the vendor is going to change their approach, oftentimes when they coincides when they change leadership in their global sales organization, or in the in the C suite. And they try to migrate the business quickly to direct a while alienating the very partners that have helped them get there. And most importantly, are the resource to implement the solution. Almost all of these solutions require services to implement them. They're not a plug and play type product. They're complex b2b Business Solutions, and they require a very knowledgeable services company, essentially, even if it's within a reseller, to do that work. And so, you know, there's been a long standing love hate relationship with the channel by most channel partners have most vendors. Due to this sort of back and forth, it's happened over a period of time. We've long advised our clients that you should rely on your services business and build your services business, to be the cornerstone of your company. And the reason we've advised that is to avoid some of the tumult that comes from the reselling relationship with most vendors. As well as you know, most vendors have had a habit if you will, or a or a trend, to reduce the renumeration to the channel over time. If you think way back into the Wayback Machine I pointed out earlier margins were high. There were many cases 50-60% for the partner, reseller partner, those fees now are in the single digits for most partners out there that are refilling if they get any sort of reseller renumeration at all. And so, you know, that trend has been clear over the years as well. Hopefully that provides some context right. Yeah, I wanted to jump in and we you know, one of the things that we've started to see you know, some of these leading I guess you? Well, yeah, you characterize them as reseller firm. But but now you look at them and you say, Well, geez, they're not really just a reseller firm, they're a value added solution provider that does do a fair amount of reselling. And in some cases, you know, still the majority of their revenue may be reselling. But where I say that their value added solution firm, is they they start their client relationship in very much of an advisory motion. Well, if you're only doing reselling, right, then you know, there's some risk there would also add, let me just jump in and add one more thing. You know, the consolidation consolidation is happening in all areas of the industry, whether you're a reseller, or not, whether you're a standalone services firm, or a hybrid, really just kind of three major categories, I guess, are either kind of all resell or hybrid, and most are hybrids between resale and services around the products, they sell. Our services kind of only company, but consolidation certainly is happening in all those areas and sort of all those pillars. And there is great value in a reseller business, I don't want to, you know, we often beat the ground that, hey, it's all about services around here, which, you know, certainly services are higher margin than reselling. But the value that our community of the channel and resources bring to the market is invaluable. Without them, we likely could not get the enough products and solutions into market and in use, as in support of the demand. And as big as the market is, frankly. And so, you know, the if anything, we've probably seen more interest in, in company to aggregate resources as of late than void almost as long as I can remember. And I think that's a function of sort of a realization that these, for a lot of these companies, these are the path sort of to the Promise Land, if you will. And without these, you know, hybrids really is mostly the case, reseller and service hybrids. These companies that sell these are the vendors of these solutions, cannot get them in the market, and will need to continue to have some relationship with them even as it evolves.
Ryan Barnett 17:56
Makes a lot of sense. Let us transition a little bit here. You, Mike, you touched a little bit on the margin profile of a reseller. And as you see some cloud solutions in there. I think that margin profile changes a bit a, a someone who is a cloud service provider, let's say a Microsoft CSP, they're dealing with margins that are somewhat market based, and are sometimes difficult to maintain really high margins. If you think about this, what what does a typical reseller margin look like? And I'll make this a two part question. How does that start to impact how a in the mergers and acquisition world how a buyer might evaluate a reseller? And what are, dig into the margin profile first and then dig into why that matters to in in mergers and acquisitions?
Mike Harvath 18:57
Yeah, you know, I would tell you that I would probably think of it a little differently. And that, you know, I'll use a little slightly different vernacular more channel partner because a huge part of the market, as you know, is the world of Salesforce where there are no reseller margins for partners. And it's all about service. So it kind of goes from zero if you're considering that sort of a scenario where reseller margins aren't part of the profile, but yet, still a very valuable ecosystem when you consider the amount of work that comes to the partners for referral work that comes to the partners I guess, if you well from the vendor, but it's not a typical to have single digit margins to kind of lower double digit margins for a typical reseller. Sometimes more, you know, there's usually a stratified margin profile based on your volume. And this is represented for a lot of vendors that we talked about more generically that sell through a channel, a reseller channel, there can even be, you know, much higher margins of the 2020 percentile range. We very rarely see them above 25%. But, you know, there's a few that are there. And, you know, it does, sort of, as you can imagine the impact, the P&L is greatly of these firms as it stands in, and frankly, as the vendor makes changes in their program, you can see how that can be very challenging for resellers, because of the infrastructure that they needed to build in order to effectively resell and implement these various solutions.
Ryan Barnett 20:50
So the markets evolved a bit and you have these relationships and oftentimes multi party it seems like the being a reseller today, maybe hard to find your spot, or in perhaps even transition your business to include more, more services. When you think about the m&a market, are buyers looking for someone who's perhaps more pure in the reseller relationship, or the services relationship? Or do you think there's a bit of a mix of understanding that there is value in both some kind of managed service that goes along with the products that you're you're trying to sell? And that could be a more valuable solution, compared to just perhaps reselling our services alone?
Mike Harvath 21:50
I think it's an interesting question, Ryan, I think the there's sort of this tipping point of are you predominantly services are predominantly reselling. And that sort of happens at 50%. Like if you're 50%, or more reselling your revenue and profit. Most likely revenue, comes from this more than 50% of the business, then you're sort of seeing through the lens as a reseller. Not a typical to have those resources, I might have upwards of 25 or 30% of their business be services. Sometimes more. But But in general, you know, resellers that that rent for more than 50% of revenue comes from reselling are seen in the light of the world as sort of a reseller. And there's interest in their reseller revenue by other investors in that space as well as other resellers that consider themselves resellers. I think once the you get over 50% of your revenue as a services company, you begin to be seen more as a services company. And you also the multiples associated with those revenue streams are higher for services companies on the AR for resellers. And the percentage of revenue matters right in how people think about valuing businesses in the context of a merger or an acquisition. But also, as they begin to think about how they're managed and run, we found that businesses that are run and manage like a reseller with more than 50% of their revenue being resold tech revenue are managed to run differently than those that are more services oriented. There's neither right or wrong. It just has to do with how each business thinks about staffing and deploys capital and makes investments and, and ultimately creates value within the business and impacts ultimately, their net margin profile as well. The types of folks that are investors in and companies that are aggregating these firms look for different things, some look for pure play resellers, because that's consistent with their strategy or investment these some look for multi vendor that may be in the same domain. Let's say security is a good example that or some, you know, may look for multi vendor multi domain. And there's been many high profile deals that have been announced in our industry that have done been done by companies like that, that are aggregated. I think of companies like MGM UN has done a great job of that over the years. Started by someone I know well, Mike Phelps, and they've built a really impressive business and and ultimately have created a quite a good hybrid, but one that covers sort of the watershed of multi vendor, multi vertical rescaling and services.
Ryan Barnett 25:11
And, Mike, what's the one thing that prompted this discussion overall was that we were talking to someone that sounded like they're really large in size. And something that can happen in this market is that a small team can win some huge deals. And by huge, I mean, it can be in the factor of 10s of millions of dollars. But to get the appropriate margin on that, and examples specific example gave me was a $60 million firm, but only a million in. That looks like a very different business than someone who's producing a maybe $3 million in revenue, but a million dollars in profit. And I think that's part of the where this market has been somewhat confusing and interesting, the large price tags that are some of these deals, can really inflate some top line revenue numbers. And sometimes that drags into the rest of the sector. And I guess I'd love your opinion on on this. If you do have someone and you are able to have these big revenue wins, but maybe at low margin, do you advise a company that's in that spot to improve the margin or change the services that are offered? What is especially let's say, two to three years out, they're looking to sell? What kind of advice do you give to a company that that has those kind of ratios?
Mike Harvath 26:45
Well, I think it's important to be, you know, true to yourself, like, are you building a reseller business, hybrid, reseller services, business or services? Each one of these types of businesses are sort of treated and valued differently. And, frankly, the top quartile performers, and each one of those sorts of sectors has a different margin target. And it's important to make sure that you're benchmarking your business and comparing your business to your peers accordingly, I will always tell you that you know, margin matters, right? Profit matters, you need to focus on that, you need to optimize that you need to grow that. And I would say that you should aspire to be, you know, certainly in the top quartile with the top 25% of your peers in order to continue to be able to invest time and energy and money and staff to grow the business, I think when you start to get a little bit rock back on your heels, maybe you're in the bottom quartile or you know, you're you're struggling a little bit to even be in the middle of the pack. It gets much harder. And you as a business who's looking sort of for a lot of some sort of return on your investment there, long term looking to exit in the coming years, certainly need to focus on dialing the business in regardless of sort of your profile right of these three, startup example, to, you know, migrate and be in the top quartile of your peers. That's how you optimize your value for eventual exit.
Ryan Barnett 28:28
Yeah that has been helpful. That's kind of the questions I had for today. Matt, any anything else you want to add to the discussion here?
Matt Lockhart 28:40
Well, I think I'll, I was gonna be very interesting. If you if you don't know, reselling is not my area of specialty like it is Mike's. But it does bring me to sort of the some of the principles that we advocate across the board, you know, matter here, right? Specialization, you know, very hard to be a generalist in this space, potentially verticalization, especially if you are taking in and advisory first approach, right? And maybe productization, maybe not as critical. However, the one thing that I'll say is, is look at the cloud marketplaces. And the cloud marketplaces very much are interested in in you demonstrating as a reseller, the ability to specialize verticalized and then use their productized marketplace as a means to go into market. So those those principles that we talked about on a regular basis, I think, I think apply here, don't you Mike?
Mike Harvath 29:54
Absolutely, absolutely. We know that that is the winning formula for success. You've learned that some ways the hard way over the last, oh Jeepers, I guess for me 30 plus years in the business. And I think, you know, it's usually a good a good strategy to follow.
Ryan Barnett 30:19
it appreciate that all the insight on on both this and Matt that was actually the one question that I really wanted to ask you is where you think the cloud service market goes, I'm really glad that you've addressed that. That's what I got here today. If I was to summarize, I think it's a if you're in technology, there's a very good chance that you're going to have some kind of reseller relationship. And keeping that relationship with your partner vendor open and transparent and working with them is imperative. If you do it right, you can have a really successful business and one that markets can reward. If you are able to bring in, bring in specialization, bring in margin enhancement, and, be able to sell products and services in a way that consumers can buy better and the market can value that. You also think there's a big journey that resellers are going through as they learn to adopt and bring more services to market as solutions become more complicated and harder to to integrate. You're going to see a bit of a valuation difference between maybe, let's say, the pure play var compared to a systems integration firm or a solution type provider, or a services provider. And that's just something that if you're looking to sell your firm to understand those multiples are going to be ultimately different. Other than I think that the resellers are gonna be here for a bit but programs are changing. And if you are reselling something today, being very in touch with the market on where those changes are coming in is imperative to your future success and frankly, survival. So being able to adapt to some of these changes is going to would keep to available and in the market for a long time. That's That's what I heard. Appreciate it, Mike and Matt, and I'll turn it over to Mike, for wrap up.
Mike Harvath 32:26
Thanks, Ryan. And Matt, for a great podcast today. I would add just from a sort of looking back again, where we started here, you know, all what we know today, as the reseller hybrid and services markets would not have occurred very likely, without the channels and channels as we know them today. Right. It was a sort of a natural evolution early on that spawned all kinds of great talent and entrepreneurial opportunities. And I think it's what's also spurred on, you know, the whole tech market, you know, growing as quickly as it is as a percentage of GDP and, and taking up the biggest slice of the GDP, as it does today. And so it's been a fascinating journey from the early days of tech to what they are today and it will continue to be as time goes on. So that will tie a ribbon on it for this week's Shoot the Moon podcast, I encourage you to tune in next week, we will unpack additional, hopefully very interesting and thoughtful conversations around the world of tech enabled services and reselling and ultimately how to help you get from here to there. So with that, we'll say Have a great week. Make it a good one and we look forward to you tune in next time.