Yesterday, I attended an excellent session with the Rocky Mountain Venture Capital Group. Over 100 VC’s and 150 Companies attended, I had a chance to ask the Venture Capitalists (VC’s) about factors they look for in deciding whether to give professional service companies investments for growth.
Professional Service is an interesting market segment; many VC’s won’t invest at all in the sector as it really requires some specialist insight. While VC’s can value product based companies based on their patents, products, management and performance typically as a rule of thumb this is a multiple of their revenue, profit or earnings before tax depreciation and amortization (EBITDA). Professional Services companies have a harder time; it is not as easy for VC’s as the factors are often less clear.
VC’s perceive the risk can be higher for Professional service companies and higher risk often equates to lower value. The value of the organization often lies with the relationship that consultants have with the clients. The fear is that a group of consultants could leave and set up a competing organization, or the processes that are used in servicing a client could be easily replicated by another company unless there are defendable barriers.
For this reason it is imperative for professional services companies to build intellectual property in their own company, this can come in several forms,
- Insight into customer relationship that instead of being with the consultant is an asset of the company.
- Identifying standard replicable processes that are unique to the professional services company, this can be in the form of template project plans, processes and training. If the processes can be patented, so much the better, and the higher the valuation.
- Holding the relationships with the networks of subcontractors and vendors and having structured purchase agreements that may prevent easy conversion can also protect from employees taking both customers and subcontractors.
- Holding the marketing engine close, so that the mix of new business and existing business can be consistent. This can broaden the customer base, reducing risk and can prove the presence of a process rather than one off relationships.
The VC’s I spoke with said that if a Professional Service company could address these issues through a system, their valuation would be higher. If Professional Service CEO’s have can create identified unique value that they can sell or convert into capital for expansion they have greater chance of survival and growth. Of course this is just one factor, but a very important one!