Are Agencies Ripe For Rollups? | Ep. 2618

When you don't have a good amount of marketing and you're losing a bunch of clients, of course you're looking to sell.

This is just crazy risk. No one's going to do these kind of deals. People just have unrealistic expectations. I believe that's going to change in early 2024.

It's time to start conversations, I believe. Not quite time to start buying because the delusion meter right now is still a little high. All right. So we're going to talk about if agencies are ripe for roll-ups. But first, before we define or before we start, Neil, define what roll-ups are.

Rollups is when you take a lot of companies in the same space and you take them, you buy them, you combine them, you merge it into one entity.

Yep. So we actually started this— the way we started this title was talking about if creator companies are right for rollups. That's a whole nother subject. But also in the economy that we're in right now, we should also talk about if agencies are right for rollups because a lot of you listeners are actually agency owners. So Neil, since you adjusted the title, You can start first.

Yeah, so typically if you're a small agency, like really, really tiny, you know, you may get 3, 4, 5x EBITDA for your agency. If you're a really large agency, sometimes you can get 10+ times multiple. So what a lot of people are doing is they're taking 4, 5, 6, 7 smaller agencies, combining them, cross-selling the customer base so that way you're creating, more synergistic revenue. And then also cutting back on expenses. You don't need, you know, 5 HR people for some of these companies, or you don't need 3 CFOs, right? So you're also creating some savings there. You're cross-selling. So for example, if Eric has an SEO agency and I have a pay-per-click agency, I would sell all my customers SEO services from Eric's, and then he would sell all his customers pay-per-click services, right? From My agency, I'm making this up here, and you would start generating more revenue from your customers. Typically when you sell them on more services, you'll see decrease in churn. So they're paying you longer now too. They're becoming more profitable. And when you start doing this, you're also getting the multiple arbitrage and maybe you can get up to or somewhere around 10 times multiple if you really get at scale. And that's what a lot of players are considering or looking at.

Yeah.

And it's one of the perfect times to do it because then everyone makes more money.

Let's clarify a couple of things here. So when we say EBITDA, I mean, this is, you know, Warren Buffett and Charlie Munger hate the word EBITDA. Let's just call it profit for people, right? So let's say a company is doing $5 million and $1 million is profit. That is your— for simplicity's sake, let's just call it your EBITDA. Now, if you're doing $1 million, typically you might get 3, 4x. Sometimes if you're lucky, you might get a little more than that, 6, 7x or something like that if you're lucky, right? But what Neil's talking about, and I don't think this is the case anymore, Neil, it might be different now, but 2 years ago or a year ago or so, maybe a little over a year ago or so, but if you're greater than $5 million in profit, then your multiple is going to kick higher.

Yeah. If you're greater than $5 million in profit, even in today's market, your multiple is going to kick higher. But it's with a few different caveats. $5 million, you're still growing. Low churn. They're looking at multiple factors like that. Like people ideally want growth over 20%, they want low churn. And if you have a lot of those factors, you can still get paid quite well. So if there's 5 agencies each doing $1 million in profit and call it $5 million in revenue, now you have, when you combine them all, $25 million in revenue and $5 million in profit. Well, hopefully you can cut some expenses because there's a lot of overlaps in roles. So maybe your $5 million profit turns to $5.5. Then you cross-sell different services to the agencies you combine. So maybe your $5.5 million in profit now turns to $6.5 million because maybe you created another $5 million in revenue through all the cross-selling between the agencies. So at $6.5 million, if you can get 10 times, you won't get paid up all upfront in most cases, but if you got 10 times, that's $65 million.

Wow.

That's better than if you look at the individual agencies, even if you, you know, a million in profit, you're getting, call it 5 times. So that's $5 million. Of course, when you, you know, combine 5 of them, if you look at each 5 of them, that's $25 million. That's a big difference in the amount of money that you got. And you got it not just because of multiple arbitrage, you got it also because of the cost savings plus the cross-selling.

Yep. So a couple other things before we get out of here. So look, agencies at the end of the day, they're not only a great cash flow business, but if you can make it work at scale, they're also the enterprise value that you can command from it can be pretty significant. Most people just don't know that. Now, we should just answer the question directly here. Do we think agencies are ripe for roll-ups? I think we're getting there right now. I think Neil and I have had conversations on the phone. He's in process. In the next episode, maybe we'll talk about critical agency acquisition mistakes.

Yeah.

Just on both sides. But I would say in general right now, more and more people are coming out of the woodwork and saying, hey, like, you know, we're looking to sell the thing right now. And then when you ask why, it's like, oh, you know, I'm interested in moving to the next thing. But the real reason is like, one, either they're not getting that many leads. And then the second part, Neil, I think you said was churn's a major issue too, right? So when you don't have good— a good amount of marketing coming in, you don't have good leads coming in, and you're losing a bunch of clients, of course you're looking to sell. Yep.

And it's so funny because everyone talks about like, oh yeah, I want to go and do something else. Well, typically you want to go do something else because the business is not doing well. You know, if the business is doing well, then—

Or you're not able to figure out how to get to the next level.

Yeah. And what I would say is agencies are coming down on their valuations and expectations. Forget just valuations, their expectations. That's the biggest issue right now. with doing roll-ups in the agency space. A lot of people believe their agency— like, I talked to someone who's just like, yeah, my agency went from $1 million in profit to around $450 grand a year in profit. They're like, I want $5 million. Well, you're declining and you want more than 10 times? Like, this is not going to happen. And they're like, well, in a good market we were getting offered $5 million. But I was like, yeah, but you're doing $1 million in profit. You're doing— And we're not in a good market. Yeah. One, we're not in a good market, but two, you're not doing a million in profit anymore. And they're just like, yeah, but that's what we want because that's what we were getting before. Like, and we faced this so many times. I dealt with another one in Southeast Asia and they were doing, their revenue's flat, but their profits dropped down drastically. They're sub $500 grand. And they're just like, we don't want to work in the business anymore. Give us 7 times upfront for our agency. I'm like, so the founders are going to leave. I haven't met any of the management. You haven't given me tons of data. You just expect me to give you 7 times upfront for a declining business. And oh, by the way, I have no idea who's going to run it or who understands the business. And you're also having a high churn in your executive staff. So like, this is just crazy risk. No one's going to do these kinds of deals. People just have unrealistic expectations today. And I believe that's going to change in early 2024.

So we think the apple is about to get ripe. It's not quite ripe yet. You know, a better analogy is the banana. When the banana is like green and then, you know, it's about to become yellow. So we're not quite— it's a green-yellowish right now. So we're about to get there. So if you're looking, getting ready to scoop something, maybe the timing is getting there. So it's time to start conversations, I believe. Not quite time to start buying because the delusion meter right now is still a little high.

Yep, I agree with that.

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