A wise sage once said, “All good things must come to an end”. This is especially true for the small business owner, who’d like to exit their business gracefully. But, saying it and taking action are two entirely different propositions when it comes to making that a reality. Most small business owners are constantly consumed with the day-to-day running of their business and have precious little time for the luxuries of planning, unlike their larger corporate cousins, this activity tends to be put off till last minute or generally not done at all.
Business owners who’ve work hard all their lives may dream about that day they can be free from the everyday frustrations of running their business, but do they plan for it? Even if they are years away from moving on or retiring, do they ever think ahead and plan? A common misperception is that exit planning is only applicable when a business owner is retiring, unfortunately nothing could be further from the truth. Exit strategies aren’t just for deciding how to exit their businesses; they also lay the groundwork for growing and managing the business, so that the business-transfer process is flawless.
Some business owners might plan to take their companies public and sell their shares when they retire. Others plan to sell their businesses to individuals or other companies without ever going public. Some expect their children to assume control of the company, which is a rare situation these days. Other business owners don’t think about an exit strategy at all, and someday, just fade away and die. So, if you don’t plan your business exit, don’t worry, there’s a default strategy…but, you’re not likely to like it.
This article explores the possibilities for exiting the business and how to think about the process of preparing for the ultimate journey, as the business owner prepares to transition their business to a new owner.
Why Does a Business Owner Need an Exit Strategy?
If you have any sort of investor involved with your business, such as angel investors, venture capitalists or private equity groups who’ve invested in your business, they will most definitely demand an exit strategy. They will want to know how they will be compensated for their investment in your business. Without a viable exit strategy, they are never likely to invest in your business.
If you’d like your children to inherit your business, you will need to plan for this. On-the- other-hand, if you don’t have children or other family members interested in your business, you’ll more than likely sell it to a stranger, your employees or maybe your business partner, if you have one. Regardless of the buyer, there’s a path to tread in the years leading up to the sale to ensure the highest price and the smoothest transition.
In addition to consulting a certified business broker/intermediary, it is always advisable to consult an attorney experienced in business succession. This should be part of your trusts and estates planning with a highly competent attorney who is respected in your area. But, it would be worthwhile to gather all your professional advice experts around you, including a business broker / business intermediary, who can add value as it relates to the sale of the business, if that’s your goal.
The Early Days
No two-business owners ever run their business the same way, even if they are in an identical industry. There are many ways to run a business and they all have pros and cons. Some creative business owners drain their company on a daily basis. Now, that’s doesn’t mean they bleed the company to death and run it into the red, but they handsomely compensate themselves, along with other perks, such as preferential shares and heavy bonuses. If they were in the corporate world this would definitely be frowned upon, but in the world of small business it tends to be the norm and the business is termed a lifestyle company.
Unfortunately, what the small business owner tends to overlook is that this is not money in the business and can be harmful when it comes time to sell. The way money is extracted from the business may have serious and negative tax implications. For example, a high salary is taxed as ordinary income, while an acquisition could bring money in the form of capital gains. Without careful long-term planning, you may end up pulling out money now you may need later.
Exit planning therefore should ideally occur in the early days of a new business, but expediency dictates that generating revenue and making weekly payroll is a higher priority, rather than some seemingly esoteric exercise like exit planning. So, this task tends to be deferred to later years, when the business is in full swing and the owner may have a little more time to think of the future.
Strategies for Selling
Most small business owners are emotionally attached to what they’ve built naturally, so instead of selling to a total stranger, you can pass ownership to another like-minded soul who will preserve your legacy. Interested parties might include customers, employees, children or other family members.
But, the buyer needn’t always come from outside. You might favor selling your business to current employees or managers such as a management buyout or MBO. It could also be an ESOP, or employee stock option plan, where the owner sells to his/her employees. In these kinds of sales, the seller would likely structure the deal very differently than a conventional stranger buying the business.
The cleanest friendly buyout occurs when the business is passed down to the family. But this has implications too if the family not quite as functional as it should be. Once the kids are in charge it’s always possible they’ll end up fighting over who received the largest share, who does or doesn’t deserve the ownership they received, and who gets the final word. When you sell your family business to the children, you may feel like you’ve never really left. You’re on-call 24 hours a day seven days as week for questions about how things work. They’ll finger-point forever while the business slowly runs into the ground, then blame you for not leaving clearer instructions. If you decide to go this route, you’ve got a lot of planning to do before transitioning out of the business.
A corporate acquisition is certainly one away to go, but it isn’t plain sailing either. However, the advantage is that in an acquisition on this nature you can sell your business and leave the kids money, maybe, but at least sparing the business from being ruined by your heirs. Acquisition is one of the most common exit strategies: You find another business that wants to buy yours and go for it.
Businesses in public markets value your business relative to your industry. Fortunately, in an acquisition of a private held company, you negotiate price. This is good, as the sky’s the limit on your perceived value. Very often if the buyer is a larger corporate public entity the person making the acquisition decision is rarely the owner of the acquiring company, so they don’t feel the pain of acquisition cost. Convince them you’re worth a billion dollars, and they’ll gladly break out their employer’s checkbook. Joking of course, but you get the idea.
If you choose the right acquirer, your value can far exceed what would be reasonable, based on your income. How do you select the right company? Look for a strategic fit: Which acquirer can acquire you to expand into a new market, or offer a new product to their existing customers?
But acquisition has its dark side. If there’s a bad fit between the acquirer and your company, the combined companies can, and often do, self-destruct. The acquired management team may end up locked into working for the combined company, and if things go badly wrong, they get to watch their dream implode from within. If you’re thinking of acquisition as your exit strategy, make yourself attractive to the acquisition candidates, but don’t go so far as to you cut off your other options as they may be the only ones left.
So, there are several ways to exit your business: your can sell it to an individual buyer; have it acquired by another company; pass it to another family member; sell to a manager, an employee, or a colleague buy-out; or, just close the doors. Unfortunately, this latter exit is all too common for the business owner who’s neglected to develop and exit plan early on in the life of the company and their transition to the new life.
For an exit strategy to be useful there are ten critical elements a business owner needs to know about exit strategies: