How to sell a software or managed IT services company in Canada

Canadian technology businesses priced on earnings, which covers managed IT services and mature software, typically sell for 4.5 to 7.5 times adjusted earnings. Subscription software is likely to be priced on recurring revenue instead, which can put a fast growing company well above that range. Monthly contracts and a wide client base move a business toward the top.

Which number a buyer will use

Owners who set out to sell a software company in Canada, or a managed IT services business, first need to know which arithmetic applies. The valuation InvestDeal runs prices technology businesses at 4.5 to 7.5 times adjusted earnings, which is how buyers price managed services firms and mature software. The full table by industry sets that row beside every other sector.

Subscription software is the exception. Where most revenue comes from subscriptions that renew, buyers are likely to price the business on recurring revenue, and a fast growing company with thin margins can be worth several times what the earnings range implies. Decide which kind of business you run before you accept anyone’s arithmetic.

Adjusted earnings are the profit with your own salary and personal costs added back, as SDE or EBITDA explains. Above $1 million of them, a company reaches the level most private equity buyers screen for, and our engine adds 0.3 to the multiple there.

Managed services or project work

Monthly recurring revenue, or MRR, is the total of contract fees billed every month, and it is the first figure an IT services buyer reads. A provider that runs a client’s network for a fixed monthly fee has revenue a buyer can count on next year. A shop that builds a system and moves on has to win that revenue again.

Take, as an illustration, an IT company with $800,000 of adjusted earnings. The mix of contracts and the size of its largest client change the range our engine applies.

The top of the third row is $760,000 above the top of the first, for the same earnings. Customer concentration explains why one large client costs so much, and how to bring its share down before a sale.

Who owns the code

A buyer of a software company is buying its intellectual property, and checks the chain of ownership early in diligence. Under the Copyright Act, the author of a work is its first owner. Section 13(3) gives the employer ownership of work an employee makes in the course of employment, subject to any agreement to the contrary.

Contractors are where the gaps appear. Code a freelancer wrote belongs to the freelancer under section 13(1) until it is assigned, and section 13(4) requires that assignment to be in writing and signed by the owner. Moral rights stay with the author and can be waived under section 14.1(2), so a buyer will look for a written waiver as well.

• A signed IP assignment from every employee who wrote code, ideally inside the employment agreement.
• A signed assignment and moral rights waiver from every contractor, past and present, whose code is in the product.
• A list of open source components and their licences, since some licences set conditions on code you distribute.
• Domain names and trademarks registered in the company’s name, with code repositories held in company accounts.

SR&ED credits in diligence

A Canadian software company that does development work may claim the Scientific Research and Experimental Development incentive, SR&ED for short. The CRA states that most Canadian controlled private corporations may earn a refundable investment tax credit at 35 percent on qualified spending up to an expenditure limit, which is $6 million for tax years beginning after December 15, 2024. Spending above the limit earns the basic rate of 15 percent.

A buyer asks for each year’s claim and any CRA correspondence about it, and may want an indemnity, a promise from you to repay, if a refund is later reversed. That promise can sit beside a holdback, which holdbacks, escrow and warranties explains.

The second point matters for a foreign buyer. The CRA’s definition of a CCPC excludes a corporation controlled, directly or indirectly, by non-residents. Once a US company owns control, your company leaves that category, and the 35 percent refundable rate goes with it. Any buyer who has counted on future refunds at that rate will take them back out of the price.

Selling to a US buyer

A buyer from the United States brings extra steps. ISED’s Investment Canada Act page states that non-Canadians who acquire control of a Canadian business “must submit either a Notification or an Application for Review” unless an exemption applies. The Act also allows the government to review foreign investments of any size on national security grounds, which matters most for companies holding personal data or sensitive technology.

An offer from a US buyer may be quoted in US dollars, and part of it may arrive as an earnout tied to targets after closing. Ask your tax adviser how the buyer’s residence affects your share sale before you sign anything binding. Who buys Canadian businesses compares foreign buyers with the Canadian ones.

What to prepare in the year before

1. 01Report MRR by month for three years, separated from project revenue, with each contract’s renewal date.
2. 02Collect signed IP assignments from every employee and contractor whose code is in the product.
3. 03Bring the largest client below 20 percent of revenue, or at least onto a contract whose term runs past closing.
4. 04Keep each year’s SR&ED claim with its CRA correspondence in one folder, ready for the due diligence file.
5. 05Write down who maintains each system, so a buyer can see the knowledge sits with the team.

A company a management team already runs earns up to 0.4 more in our engine, and selling a business that depends on you explains how to get there when you are the lead engineer and the main salesperson at once. To see where your company sits today, the Quick AI valuation gives an early range in a few minutes, before you give anyone your name.

The buyers, due diligence priorities and sector requirements are set out on InvestDeal’s technology M&A advisory page.

Questions owners ask

What is a managed IT services business worth in Canada?

Typically 4.5 to 7.5 times adjusted earnings in the valuation InvestDeal runs. A provider with $800,000 of adjusted earnings, mostly on monthly contracts and with its largest client under 10 percent of revenue, would fall between about $3.96 million and $6.36 million in that model.

Is a SaaS company valued on revenue or on earnings?

Where most revenue comes from subscriptions that renew, buyers are likely to price the business on recurring revenue, and a fast growing company with thin margins can be worth several times what an earnings multiple implies. Mature software with steady profits is usually bought on earnings.

What happens to SR&ED credits when a US company buys my business?

The CRA ties the refundable 35 percent credit to Canadian controlled private corporations, and its definition excludes a corporation controlled by non-residents. After the sale, credits are earned at the basic 15 percent rate, and the buyer will review past claims in diligence.

Who owns code written by contractors?

Under the Copyright Act the author is the first owner, so a contractor owns the code they wrote until they assign it, and an assignment must be in writing and signed. Work an employee makes in the course of employment belongs to the employer under section 13(3), subject to any agreement to the contrary.