By Peter Lyle DeHaan, PhD
Determining an appropriate valuation for a telephone answering service (TAS) looms as a challenging task, one that many outside the industry don’t fully appreciate. This paper details TAS distinctives and explains how to best determine the value of a TAS.
A common valuation method for most businesses is to use a multiple of EBITDA (earnings before interest, taxes, depreciation, and amortization). This general approach can be adapted to apply in most situations, but it fails to appreciate the nuances inherent in the telephone answering service industry.
When it comes to determining the value of a TAS, the EBITDA approach often falls short, underestimating the true worth of the answering service.
Multiple of Monthly Billing
An alternate telephone answering service valuation methodology, which has proven itself over time, is a multiple of monthly billing. Most TAS business sales are to others in the industry or to investment groups that understand the industry. In this case, call center valuation knowledge doesn’t apply and leads potential purchasers astray, undervaluing the property.
Answering Service vs Call Center
By definition, a TAS is arguably a subset of the call center industry. But the TAS industry is substantially different. It also predates the call center industry, which started circa 1980, whereas the answering service industry first emerged in the 1920s.
While EBITDA works as an effective evaluation tool for call centers, this methodology doesn’t translate nicely to answering services. An outsourced call center typically has a small number of large clients, whereas a TAS has a large number of small clients.
If a call center loses just one client, their whole operation plunges into disarray and their future viability is questionable—unless they can replace that one client in short order.
When in answering service, however, loses one client the impact on the bottom line is negligible and usually not even noticed.
Given this dynamic, EBITDA works well for call center valuations, where the business’s future viability is unknown, even questionable. Even those call centers that attempt to lock in clients with long-term contracts, still lack the confidence of those clients remaining with them should they become determined to leave. Given this reality, outsourced call centers typically sell for a low multiple of their EBITDA.
Contrast this to a TAS with their high number of low priced clients. From a financial perspective, the TAS operation becomes a numbers game. The astute business manager knows how long an average client will continue using their services. Some will stay longer, and some will be shorter, but the average is a number they can confidently rely on hitting, month after month, year after year. They also know the average monthly billing for a typical client.
What this means is answering services have a predictable and measurable volatility that is both small and understood. When a client cancels service, which happens every month, their marketing department and sales team has scores or even hundreds of realistic prospects in its sales funnel.
This means that another client will soon take the place of the one that just cancelled service. This isn’t hard to do with a monthly cost of using a TAS starting at just shy of $100, with a $200 to $300 range being common.
Given these dynamics, EBITDA calculations underprice answering services, with a multiple monthly billing being a much more realistic and actionable figure. Yes, you can valuate a TAS using EBITDA and back into a reasonable approximation of its value. But doing this requires adjustments and assumptions, which takes too much effort to be practical. And it still often undervalues the property.
That’s why most in the TAS industry have persisted in using a multiple of monthly billing to guide their initial telephone answering service valuation efforts. It has worked, and it continues to work.
Adjusting the Multiple
Just as with the EBITDA valuation methodology, the multiple of monthly billing approach determines the multiple based on other business factors. A well-run optimized TAS will command a higher multiple of monthly billing then a poorly run, mismanaged, or ignored operation.
Given this, however, is that some answering service buyers purchase only the client base. This renders all other valuation factors as largely irrelevant. For them, the monthly billing is the only thing that matters.
Others purchase the entire operation, either to run independently or to merge into one of their existing answering services.
A Seller’s Market
The TAS industry is currently experiencing a seller’s market. It’s been in this mode for several decades. Based on what I hear from buyers and sellers is that sales often occur for a monthly billing multiple in the mid to high teens. And selling at over twenty times monthly billing isn’t unheard of.
Sellers, of course, are pleased with the payout, yet buyers continue to willingly make acquisitions under these conditions. They do this to pursue an economy of scale, which only the bigger players can fully realize. This has resulted in a decades long TAS industry consolidation.
The actual size of the TAS industry is hard to pin down with any degree of accuracy, yet when I researched my MBA thesis in 1998 the estimated size of the industry was 10,000 answering services, which soon decreased to 5,000 by the time I did my PhD dissertation a couple of years later. I now estimate the number of services to be one tenth of that number, probably lower.
This is not to suggest the industry is shrinking. It is not.
The demand for answering service is great and appears to be larger than ever in terms of overall sales. It’s merely that the number of services has decreased.
This means that those providers who want to grow through acquisition—which is much faster and often easier than growing via sales and marketing—have fewer viable services to select from.
This is the main factor in driving up monthly billing multiples and keeping them there. I expect this dynamic to continue for the foreseeable future.
Learn more in Peter Lyle DeHaan’s book, How to Start a Telephone Answering Service.
Peter Lyle DeHaan, PhD, is the publisher and editor-in-chief of TAS Trader, covering the telephone answering service industry. Check out his books How to Start a Telephone Answering Service and Sticky Customer Service.