Merchant Portfolio Valuation: Large Merchants

The large merchant is always a quasi-controversial topic of discussion in the acquisition and valuation of merchant processing portfolios. Whether the nature of the large merchant be a single store, or a multiple location entity, it often presents a challenge to both buyers and sellers in how to address the risk associated with that large merchant, and by extension, how that risk affects the valuation of that large merchant and the merchant portfolio as a whole.

As I just alluded to, the crux of the issue with large merchants has to do with the risk they present to a buyer. Look at the 2 merchant portfolio examples below:

Portfolio A) $10k/month in residual, 100 merchants, each individual merchant contributes 1% to the total residual

Portfolio B) $10k/month in residual, 100 merchants, 1 merchant contributes 50% to the total residual (large merchant), the other 99 merchants contribute the remaining 50% to the total residual

These examples are extreme however they’re useful in illustrating the point regarding large merchants. Not just quantitatively, but intuitively, if you are a buyer, Portfolio A is a much more attractive investment to you. The risk of lost revenues by way of lost merchant accounts is distributed evenly across the entire merchant base; no single merchant loss would materially affect the future cash flows from the residual. Conversely, the purchase of Portfolio B would (and should) concern you, for if you were to lose that 1 large merchant, 50% of the revenue you purchased just evaporated. Therefore the purchase of Portfolio B is much more risky, and as a result, commands a valuation lesser than Portfolio A. (Remember: higher risk = lower valuation)

My intention here is to help owners of merchant portfolios better understand how the merchant portfolio they are building would be viewed by a buyer. The take away for portfolio owners, both agents and ISO’s, is not that they should forgo large merchants or multiple store locations. The take away should be that in building your portfolio asset, you need to be mindful of these large merchants and how they would affect the overall valuation of your portfolio asset when you go to market with it someday. Being aware of the myriad internal attributes of your merchant portfolio is the first step in being able to create and maintain the value of that asset.

So what are some things that you can do to mitigate the risk associated with a large merchant in your portfolio?

First and foremost, seek greater balance. If you look at your portfolio and it more closely resembles Portfolio B above, you may want to consider building the portfolio up before going to market. For example, if I had a book that resembled Portfolio B above and I was contemplating selling it, I might delay the sale until I got the merchant count up another 100 accounts. By doing this, I could substantially reduce the percentage of revenue contribution by the large merchant (dilution) as it relates to the total residual (perhaps I can get the large merchant’s revenue contribution down from 50% to 30%).

Another option to consider is pulling the large merchant out of any potential portfolio sale. Again, using the example of Portfolio B above, I could go to market with the 99 merchant accounts throwing off $5k/month and keep the large account for myself. I’m actually a big fan of this strategy. Instead of having to accept a lower valuation (multiplier) on the entire portfolio, I remove the large account from the deal, accept a higher multiplier on the other 99 merchants, and keep the 1 large account for myself. I benefit by both taking some money off the table AND keeping a steady monthly cash flow coming in (with only 1 customer to service to boot!!!)