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Two Years into Private Equity: Lessons Learned
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Two Years into Private Equity
In the spirit of the New Year, I figured now is a good time to reflect on one of 2024’s hottest MSP topics: the role of private equity. We spent some time last year looking at data and predictions surrounding PE’s increasingly important impact on our industry, but this week, we’re talking to someone with on-the-ground experience working with these new players.
Peter Melby joined me once again for a bonus episode of the Business of Tech, this time recorded in person at IT Nation Connect 2023. He sold his MSP business to PE just about two years ago, which means he knows a thing or two about what it’s actually like to partner with these folks long-term.
Want to know his takeaways two years post-sale? Curious what it’s like on the other side? Here’s what we caught up on.
Melby’s First Two Years Post-Sale
My question for Melby was simple: how’s it going? Melby is still an operator, which means he’s still knee-deep in overseeing the biz. And two years out, his response is also simple: it’s going great.
In fact, Melby’s perspective has evolved a lot during that time:
“The amount that I’ve learned in two years is mind-boggling to me in terms of just what I thought was capable and the assumptions I made,” he said.
If you don’t remember our last convo pre-sale, Melby was very hesitant about walking the PE path, even stating that he would never engage in PE because he didn’t like the track record. He didn’t think it served the businesses well and lumped all PE folks into one bucket.
As an outsider to this world myself, I can understand that this type of PE is different from an entrepreneurial bootstrapped business, because the motivations are different. But I wanted to know – what feels different on Melby’s end?
In short, he’s found that PE investors in MSPs are placing smarter bets than their venture capital peers and know they will get their money back. That means their motivations are consistent: put money in, get more money out.
But within that motivation, Melby has discovered that the structure of a particular partner is the key to assessing whether they’re worth it – starting at the investor level.
Why Melby’s Story is Different
To break this down, Melby explained how his sponsor Oval Partners is structured. Unlike other PE players, they are funded through a multifamily office, not limited partners who invested in a specific thesis within a specific time frame. He likes to call this structure ‘patient capital’ or ‘smart capital’ because their timing and decision-making are all extremely transparent.
Throughout the last few years, Melby has always been able to identify the people putting up the money and access direct lines of communication with them. That direct engagement helped Melby understand that, like him, the people he’d be working with wanted to invest in people businesses – not tech businesses.
Before realizing this, Melby was afraid he’d have to appease different desires from customers, investors, and employees all at the same time. Because if those things don’t align, the business can’t grow. But once he started digging into the structure of his new potential partner, he realized that not all PE players have misaligned motives.
However, investors do aim to earn their money back, so I asked Melby to explain the thesis he and his PE backers are working under and any tensions it might cause with customers.
Turns out, their shared thesis isn’t just a numbers game – it’s shared, because for every one of their deals in the last two years (23 acquisitions so far), there’s been a reinvestment.
So while typical PE will try to keep as much of the pie as they can with limited ability to reinvest, Opal’s thesis is that if you get good operators who reinvest 30% in shared ownership, then their investment outcome is the operators’ investment outcome.
Reinvestment has been key to Melby’s satisfaction, but two more pieces have also helped: having a single class of shares, and Opal’s recognition that MSP is a people-centric industry.
And although Melby has had to give up control of his company, in his own words:
“Control is overrated. Alignment is not.”
What to Look For in a PE Partner
If you’re interested in engaging with PE, Melby’s advice can be summarized like this:
“At the end of the day, when motivations conflict, there has to be a North Star where we look at it and say, well, that’s that…. In this industry, you fundamentally cannot accelerate share value consistently over time if you don’t prioritize employees and clients. So the question is, does the investor know that?”
So how can you find PE with a shared North Star, preferably being the customer?
Put simply, you have to connect the dots on their motivations. Melby agreed with my premise that there are three ingredients to finding this: understanding the PE’s thesis, time frame, and industry experience.
For that last one, Melby drew the line in the sand that he would never take an investment from someone who has never invested in a service business. They need to understand that in this industry, the money follows the people.
He also added a fourth ingredient: transparency. Can you actually see how the decisions are being made, why they’re being made, and what that looks like from a common sense perspective?
The Shrinking Middle
Before I let him go, I had to ask Melby about my recent premise that PE is causing the middle band of MSPs to shrink, creating a haves and have-nots situation across the industry. Part of his growth strategy is acquisition, giving him unique insight into this potential disparity.
For better or for worse, Melby sees what I’m talking about. He’s finding that many organizations are in a great position to do well, but they’re struggling to reach maturity. There’s not an endless supply of acquisition-ready companies out there, so Melby and his team have been looking for new ways to catalyze growth early on:
“Otherwise, what you’re going to have is a lot of immature companies that are smashed together with other immature companies.”
Feeling ready to make the most of 2024? It’s hard to know what this year will bring, but I’ll continue sending my weekly reflections your way. As always, I’m available for questions, comments, anecdotes, and whatever else is on your mind.
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