Owners and investors may have to create a transition or liquidity event for their investment in a privately held business. A common recurring theme that we hear from business owners after they have sold their company is that they wish they had planned ahead and known their options. Below is a short list and summary of some of the most prevalent exit alternatives to prompt your thinking. Keep in mind that each alternative is likely valued differently and must be considered in the context of your overall objectives (financial, legacy, success, timing and others).
Selling to a Strategic Buyer
If your primary goal is to exit and raise capital for growth, a sale to a strategic might be ideal. This may mean selling to a public company or larger private business. This transfer alternative likely eliminates any future investment on your part, and tends to be on the higher end of the purchase price range. A downside could be some risk for your employees, depending on the rationale for the deal.
Selling to a Financial Buyer (e.g., Private Equity or Independent Operators)
While financial buyers typically pay less than strategics, they tend to be decisive and quick to respond. Their investment decisions are primarily made based on return on investment calculations over a 3 to 5 year horizon where then they can refinance or sell the business having eliminated or reduced the debt, increased the cash flow and increased the overall value of the enterprise. There is a growing niche of financial investors who make long-term commitments to holding a company as part of a portfolio for the ongoing cash flow and dividends. An example of these type investors are family offices and some independent operators.
Selling to a Partner or Co-Owner
Selling to a co-owner usually ensures that a known entity takes control of the business. This person may already be involved and committed to the company, and can provide some confidence in ongoing success. The process is flexible, allowing you to set up a gradual sale or a quick handover, depending on your needs and risk tolerance.
Transferring to a Family Member
Selling or transferring to daughter, son, sibling, etc. allows you to keep the business in the family. In some cases, it can lower your tax liability when you transfer some or all of the business as a gift. Of course, sales to family can create a feud or dysfunction if not managed well. Moreover, transferring to a family member may not provide you with adequate — or any — cash-out to fund your retirement or future plans. This alternative is a common option to consider as part of a succession plan or hand-off to the next generation.
Selling to Trusted Staff — Sometimes Called a Management Buyout (MBO)
Like selling to a family member, selling to trusted employees ensures the business is run by someone or a team who appreciates it and already has a vested interest in its success (this is his or her career). In cases where the business operations and success is tightly tied to the influence of the management team or when an outside buyer is hard to find, this can be an excellent option. Many times, however, employees don’t have adequate capital and will need you to finance part of the transition.
Selling Via an Employee Stock Ownership Plan (ESOP)
A business with solid prospects and moderate growth may find an ESOP ideal. This option allows the owner to sell to staff via a trust. One option is for the company to make tax-deductible payments into the ESOP, and then the trust gradually purchases owner shares. The other option is for the ESOP to borrow capital from a bank, then purchase the company’s shares (called a leveraged ESOP). ESOP valuations tend to be on the low end of the range, however, that is offset by the potential tax gains. The math can get tricky with an ESOP, so make sure you have advisors who understand the mechanics.
Initial Public Offering (IPO)
Many business owners dream of an IPO. This confers prestige on the business, offers access to long-term capital, market awareness and an improved financial position if everything goes well. The process is complex and rare, and most companies are not viable candidates for this option. Unless you have $50 million in EBITDA and a lot of growth potential, don’t spend much time considering this.
Becoming a passive owner allows you to remain in control while making the business less dependent on you. This approach can attract potential leaders who want to learn about and be in control of the business under your guidance. It can provide a good foundation for an eventual exit. You’ll be able to continue to steer the company and direct its path, but you also retain the risks associated with ownership. On the surface, this option seems easy; however, it is more difficult in practice unless the business has critical mass to afford additional overhead and management.
This ties into several of the options above. With a recapitalization, existing owners finance some of their exit via the business. One option to consider is selling part of the company to a new investor or having the company borrow money to buyout some of your holdings or to take a significant one-time dividend or distribution. A recapitalization (or recap) can work well if you are an active and engaged owner, and willing to continue as such.
Closing the Business
In some instances, unwinding a company and liquidating its assets might yield the most predictable outcome. For example, some businesses with significant fixed assets may actually garner more value when sold in pieces (e.g., inventory, equipment, real estate, etc.), especially in declining or heavily consolidating industries. One obvious downside is the impact to your employees in the short-run.