Having an exit strategy does not show lack of commitment to your business venture – quite the opposite. Having an exit strategy is key in ensuring that strategic routes taken by the business are in line with the eventual aims for the company and should be considered right from company registration. Furthermore, in order to take on outside investment, investors will want to know what this exit strategy looks like. Ultimately, whilst an investor wants to help fund the growth of your business, they also want to make sure they will be able to achieve a good return on their investment – return of capital just as much return on capital! In order for this to happen there has to be an exit strategy in place.
There are a number of exit strategies that may be taken, each with their own advantages and disadvantages. In this article, we will explore a number of these options.
Keep It In The Family
Traditionally, many businesses were set up with the hope of creating a family business that would be passed down from generation to generation, providing not just a living, but a sense of security. While less common nowadays, this is still an exit strategy for some business owners- to pass the business to the next generation of family members. The advantage of this is that while the business may have been passed on, the know-how remains in the business and the previous business owner is on hand for any advice required.
In addition, this is often a gradual process meaning that the next in line is prepared for the role and knows the business inside out by the time they take over. However, this isn’t always the easiest of situations. Sadly, when it comes to mixing family and business there can be tensions and this can lead to conflict over ownership of the business.
This conflict may also be seen in the reaction from customers, who may not approve of ownership changes, disapproving of certain family members or from the apparent management tension and loss of focus. The other challenge can be ensuring future family members possess both the skills and the desire to take over which may be lacking and mean that brighter managers from outside the family get overlooked.
Liquidate The Business
Liquidation is when a company stops all operations and sells its assets. This is a particularly popular exit strategy for very small businesses that primarily rely on the work of an individual. For example, if you own a consultancy business, where you are the only consultant, there isn’t anything to sell on. The benefits of liquidating a business like this are that it is a relatively simple process, especially when compared to selling a business. Liquidating a business can also provide a quick exit strategy for business owners, although selling the assets may delay the process.
There are disadvantages to this exit strategy though. In terms of providing return on investment, it provides the lowest rate of return when compared to other methods. Money, via liquidation, comes from the sale of assets that may include equipment (such as computers or specialist machinery) and inventory.
In the example of the consultancy business, with a single worker, all the relationships created and the value of the good reputation of the company would be lost in the liquidation. Any funds realized from selling assets are further reduced as many of these assets will now be second hand and therefore have a low value. Some assets may also be difficult to sell due to being outdated or to a particular niche.
2. Extended Liquidation
When growing a business it is good practice to reinvest the profits into growth generating activities such as increasing production capabilities. However, when a business owner decides to wind up the business via an extended liquidation, they stop reinvesting the profits and start removing them from the business instead, for example via increased salaries or dividends. This has the benefit that the business owner gets to enjoy this cash and they can enjoy this on an ongoing basis instead of waiting to sell out.
However, this does mean that the companies growth is stunted as the profits are no longer reinvested into growth, so any potential sale value would be also be diminished. Whilst this tactic may work well where there is a single business owner, it may cause conflict in businesses where ownership is more complex as all the shareholders would want to compensate in an equal manner. Lastly, it must be considered that whilst this method ensures an increased salary, this salary will be taxed as personal income, whereas a payout from the sale of a company is taxed as capital gains and sometimes qualifies for tax relief.
Sell The Business
Selling a business is a common exit strategy that can mean ensuring the business continues operating and the owner achieves a good return on their investment, and time and energy, put into the business. There are a number of potential avenues when it comes to selling up.
1. Sell To Existing Employees
Similar to passing a business down the family, selling a business to employees rewards the passion of the employees purchasing the business and who know it inside out. This does not always mean having to sell out your entire share in the business and often business owners maintain a small share and offer their help and expertise in an ongoing manner. In some cases, this type of exit strategy may be arranged via a long-term employee purchase plan.
The benefits of doing this is that it can motivate employees to make the business the best it can possibly be. However, the possibility for this type of exit strategy will depend on the capability of these employees and the funds they have available to buy shares. For example, if a business owner employs only manual laborers, but the running of the business itself requires predominantly office-based skills, there may not be any employees suitable to take over the business. Equally, some junior employees may not have the money to buy the shares.
2. Open Market Sale
One of the most common exit strategies, this involves the sale of the business by putting it on the open market. If the business is an attractive one and performing well, this should be a relatively quick sale. This exit strategy gets a better return on investment, as supposed to liquidating the company, as both assets and goodwill are taken into account when valuing the company.
However, while some businesses have buyers lining up to buy them, those performing less admirably may struggle to find a buyer at an acceptable price making it a lengthy process. Furthermore, while this method may lead to a good return on investment in some cases, for others hard to value businesses the sale price may be lower than initially expected.
3. Sell To Another Company
This exit strategy involves the sale of your business to another business. In fact, many businesses end up selling in this manner before they had originally intended to when they are approached by someone willing to buy them.
There are many reasons why another business may wish to buy your company but it is often a strategic acquisition in order to either accelerate expansion, build on business activities common to both companies (allowing them to realize economies of scale for example) or as a way of eating up the competition, allowing the purchaser to dominate the market. Should the acquisition be of key strategic importance, a company may wish to buy your business quickly. This will also put you in a strong bargaining position allowing you to get the most value out of the sale.
However, there are risks to selling on your business to another business. Where there are synergies between the two businesses there may also be duplication and this may mean that employees within your business are made redundant after the purchase. Furthermore, if the business has been purchased by a competitor, the competitor may simply close down the business entirely after purchasing it.
IPO (Initial Public Offering)
An IPO involves offering shares of a company for sale to the public on a stock exchange. For businesses which are growing quickly, this can be a highly lucrative method. However, as this process involves the public the process is complicated, costly and lengthy. The structure of the IPO may also mean that any capital raised by selling shares may need to be reinvested into the business for growth meaning less money can be withdrawn.
After the IPO the company will now also be public, which means there are a whole host of other issues to deal with. Public companies have onerous compliance requirements and reporting standards. Furthermore, the owner may become personally liable for any failings within the company and subject to prosecution for such failings.
Ultimately, the best exit strategy depends not only on your type of business but also on your ambitions and your ambitions for your business. If making money is a priority, selling the business is likely to provide the best return on capital. However, if you wish to create a legacy, passing the business down the family or selling it on to the employees who helped build it may be the best. The key part is ensuring that the exit strategy you have in mind is considered in all the business decisions.
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