There are many different reasons why people start a business. For some, it's passion for what they do, for others, it’s the feeling of control over their own destiny. Whatever drives people to start a business, one day they will need to let go, either because they want to or because they are forced to by an unexpected health care issue or other crisis. The sooner they plan an exit strategy for each scenario, the better. We will focus on the “want to” in this article.
If you ask most business owners what their exit strategy is, you will hear that familiar summer night sound—crickets. Most owners are thinking about managing and growing their business, not how and when they will leave the business. It may not be financially smart to build a business worth a fortune without a strategy to get the value out. Most business owners understand the logic of planning for their eventual exit, but they typically put it off to some distant point in the future.
Ideally, an exit strategy is planned early in the life cycle of the business, begin with the end in mind. This mindset will hopefully help the business owner with day-to-day decision making. Due to the dynamic and fluid nature of most businesses, the exit strategy should be periodically reviewed and evaluated, and the final version could be very different from the initial strategy.
Let's take a look at some of the most common exit strategies.
Close the Doors
Hundreds of businesses end this way every year. Usually, there is an asset sale of some kind with typically lower-than-market-value prices being paid. Any goodwill or brand value the company may have had as a going concern is lost. While closing the doors is almost always an option, it is seldom the most strategic business decision. As long as the firm has brand loyalty or goodwill, the business owner would fair better financially by selling the business as an exit strategy.
Drain the Business of Free Cash Flow
An approach whereby the business owner begins to pay themselves a larger than normal salary and bonuses that typically includes all available free cash flow. This can be a good strategy in a privately held company with limited shareholders. This type of exit strategy is where the owner begins to limit future business investments and opts to instead “milk” the business “cash cow” he/she has created for as long as possible to continue to maintain their preferred lifestyle. In the end, this will often lead to a sale (perhaps for a reduced value due to lack of ongoing investment in the business) or to closing the doors.
Sell the Business: The Friendly Buy-Out
This is when a business owner transfers ownership to family members, friends, customers, or employees. It’s typically structured through a written buy-sell agreement drafted with the assistance of an attorney. The terms and financing of this type of transaction can be tricky because both sides may let their guard down during negotiations. Be sure to engage an experienced professional to protect yourself before, during and after the transaction. Many business and personal relationships have been harmed by trying to do a “handshake deal.” (For related reading, see: How to Create a Business Succession Plan.)
Sell the Business: Stranger Danger
Selling your business to the highest bidder can include serious price negotiations between multiple parties. If you are lucky enough to have multiple bidders, the value of your company may far exceed your initial asking price. However, it is much more common to have trouble finding at least one suitable buyer who values your business as high as you do and can afford to pay without some creative financing that keeps you from receiving full value immediately.
IPO: Take the Company Public
Although IPOs seem like they happen all the time, in reality, they are very rare. Of the five million companies in the United States, less than .01% undergo an IPO in any given year.
The process for taking a firm public is costly and requires very close scrutiny by regulators of all aspects of the business. For a small percentage of companies, this strategy makes sense, but for the other 99.99%, not so much.
For most business owners the right exit strategy is dependent on both the owner’s personal goals as well as the company’s transferability status, which is based on financial and operational metrics. It would seem logical therefore for all business owners to have a written personal financial plan and then to tailor the business operations and exit strategy that aligns best with the owners personal planning goals. The owner’s personal financial plan becomes the road map for their graceful exit from the business. (For related reading, see: Top Exit Strategy Tips for Small Businesses.)
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