After spending a large amount of time, money and energy to grow their enterprise, many entrepreneurs look forward to executing an exit strategy. Regardless of whether you operate a sole proprietorship or a larger corporation, you need to select an exit strategy that accomplishes your goals and extends the longevity of your business – if that is your desired outcome.
There are various questions that you must answer when the time comes, all of which will provide direction on how to move forward.
How will you pull your money out of the company? How much money will you be able to receive? Establishing a strategy ahead of time (prior to registering the business with a formations company, the earlier the better!) helps to make sure that the answers are acceptable while providing you with empowerment over the future of your business.
- An Initial Public Offering (IPO)
This option is not one of the most viable exit strategies for small business owners, but for those who take on the task, an IPO can be a very profitable exit strategy. The issue that works against most business owners is that emerging as a public company is an expensive process that takes a very long time. Depending on the structure you desire, you may not have the ability to liquidate any of your capital. This is because shareholders prefer to see that money reinvested into the business in order to expand it.
Also, having a public company requires that you remain compliant and adhere to reporting standards. That in turn increases your personal liability for accounting irregularities or disclosure failures that could make you subject to prosecution.
- Put the Business up for Sale in the Open Market
Most business owners sell their business on the open market because a very profitable entity usually sells quickly. Entities that are not as profitable are more difficult to sell, with only 20 percent of listed businesses actually selling. Nonetheless, selling on the open market is the most popular option for business owners who want to maximize their potential profit.
Using this method as one of the exit strategies for small business owners presents a few disadvantages. Because of the limited market of investors looking to purchase properties, the process of locating a buyer can be lengthy. And once a purchaser is interested, the offer is highly contingent on the valuation of the business, meaning a low profit margin will turn off investors as opposed to appealing to them.
That is why business owners who intend to use this strategy must devote an immense amount of effort into grooming, expanding and scaling their business. From the moment that the company registration is filed, every strategy and plan must serve the ultimate goal of expansive growth. In doing so, the business will build a loyal audience, establish a solidified brand and show increasing profitability. These are the attributes that make a business for sale attractive and will encourage an investor to submit a lucrative offer.
- Immediate Liquidation
This strategy involves shutting down the operation and selling off the assets. For some business, this is the only option, which is especially true for small businesses that depend on the work of an individual because the business does not have anything else to offer for sale. Entrepreneurs in this position must focus on restructuring the operation so that another individual can operate in their place. That is because business owners looking for these types of opportunities are specifically a search for a business that they can generate profits from immediately after purchasing it.
This is not the most profitable exit strategy, and thus many business owners are reluctant to employ it. Not only does it generate the lowest rate of return on the initial investment, the only money that’s the business owner is collecting is from the liquidation of assets such as equipment, inventory or real estate. That means that the entrepreneur is excluded from profiting from the value of their business relationships or client lists.
On top of that, the money that is received from machinery or inventory sold will only be a percentage of the original price invested by the entrepreneur, so the sum of the offer will be less than the initial startup costs incurred by the owner. Creditors must be paid off from the proceeds of the sale, with the remaining funds resulting in the sum of the business owner’s actual profit.
The only benefit of using an immediate liquidation is the speed in which it is concluded. It immediate liquidation of a business can happen, once a buyer is found, in a matter of days. So, the only circumstance in which it is recommended that you use this strategy as if you need to sell quickly. Otherwise, there are other strategies that will net a higher profit for the owner to that they are compensated for more than just personal property.
- Extended Liquidation
As long as time is not of the essence, a business owner can extend the time length of a liquidation in order to extract significantly more profits out of the business. The money that is paid to the owner – whether it be every month, every quarter or every year – is paid out in lieu of expanding the business to reinvestment. Profit payouts are normally distributed as dividends or large salary draws. This process continues over the course of years until the business is eventually shut down.
This exit strategy maximizes the amount of profit paid out to the business owner, while creating a source of income over a period of years. But because that money comes at the expense of keeping the business stagnant, the growth potential of the business is reduced drastically, as is the eventual valuation of the business. Shareholders will very likely disagree with the selection of this option and will most likely demand similar compensation as a result.
- Pass the Business onto a Family Member
If you prefer to remain involved in the business or maintain some control over the way the business is operating in the future, then keeping the business in the family is a very effective way to benefit from the profitability of the business. In doing so, you will create a legacy for your family, one that will live on the one generation of heirs to the next.
Nonetheless, this exit strategy can be difficult and easy at the same time. Difficulties arise in the restructuring of the business so that your heirs are easily able to duplicate the process. The easy part is having the ability to mould and train the exact person you want to fill your role. That means you can train them exactly the way you want, having confidence in knowing that they will continue to operate the business the way you want while passing those same instructions down when they train the next heir.
Using this family succession plan as an exit strategy can provide for a smooth transition, but will likely cause strife within the family, as some fellow members may disagree with the successor you choose this morning, there is no guarantee that your clients will feel the same sense of loyalty to your successor as they do you. And this is all with the assumption that the person you select wanted to take over the business – or has the ability to operate it efficiently.
All of these aspects must be heavily contemplated long in advance. In fact, a business owner who intends to use the strategy is better off making this decision from the very beginning, starting with the company registration. The entity must be structured in a way that promotes family business succession planning. Otherwise, you may find that your heirs are not able to take ownership as intended.
- Consider an Employee Buyout
If you want to pass the business on to someone who will operate it the way you want, but the perfect person for the job is an employee or manager – and not a family member – your exit strategy could be to sell your business to a manager or employee of your business. Using a long-term buyout, employees can learn how to manage and operate the company while financing the purchase of the business over time. This not only empowers other potential entrepreneurs to cross over from being an employee to a business owner, it allows you to maintain ownership of a percentage of the business, create a source of income and retain influence over the direction, growth and goals of the business.
Choosing the Best Exit Strategy
When making the decision, the best choice is the one that best accomplishes your goals. Start by figuring out exactly what you need to have for yourself when you depart from the business. If money is the only concern you have, then selling your business, whether it is to another entity or private owner, is your most effective option. On the other hand, if preserving your legacy and watching as your business develops and expands, then selling to a family member or current employee serves best. Regardless of your choice, your most urgent priority is to get started. Planning ahead of time allows you time so that everything is done correctly – and maximizes your potential gains.
About Carson Derrow
