Exit … Stage Left

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Digital Library > Acquiring and Managing Finances > Exit strategy"Exit ... Stage Left"

When it comes to selling your company, timing is everything; plan ahead.

If your company is backed with venture capital, you probably already have an exit strategy. Otherwise, you may not have given the matter much thought. Two words: Start thinking.

Timing is crucial. Too often, business owners wake up and suddenly decide that it's time to get out. Yet the market may not be ready. Or the company may not be ready. Ideally, you should be thinking about an exit strategy from Day One.

Grounds for departure

There are a number of reasons for selling:

  • Someone else may value your company more than you do.
  • It may be time to take money off the table and secure your personal future.
  • The skills that got you to a certain level aren't what you need to take the company further.
  • You're ready to retire.
  • It's not fun anymore.

Byron Denenberg founded MDA Scientific in 1969, selling the gas-detection business in 1988. By the time MDA had reached 250 employees, Denenberg found the business had become "distant." Instead of spending time on activities that interested him, Denenberg was consumed by side issues, such as human resources. "The people you initially hired and worked with so closely now have people under them, who have people under them," he explains. "You begin to feel that you've lost your ability to have any real impact. It's not the same business anymore. You begin to think it might be a lot more interesting to get out and start all over again."

Get your ducks in a row

An exit strategy forces discipline on your firm at an early stage. Selling shouldn't take that long. But deals can lag on for months, and even years, when unanticipated warts suddenly surface.

Some considerations before selling include:

Internal housekeeping. Corporate records must be in good shape. That includes annual reports, employee records and minutes of shareholder and board meetings.

Build your income. Think about how your company appears in financial reports. You want a financial model that's attractive to buyers. (Sometimes owners cut back on discretionary expenses, such as R&D or marketing, to fatten the bottom line. Be careful that you're not cutting off opportunities for the future; today's buyers are astute and will notice.)

Build your profile. Dress up your Web site. Hire a public-relations firm to let the media know you're an expert in your field. The higher your profile in an industry, the more valuable your company will appear.

Think about a successor. When an owner wants to sell, he or she usually wants to get out — or, at least, play a lesser role. Look at the capabilities of your team; if there are some weak links, you may need to make changes. Bring in someone who can carry the torch and continue opportunities for growth and success.

Start lining up references. Talk to your key customers, suppliers and other partners. Tell them you're thinking about selling, and ask if you can refer potential buyers to them. During the due-diligence stage, potential buyers will talk to anyone they can; present them with people who are preconditioned to say the right things.

Get a valuation. Experts recommend three different methods to help determine an asking price:

  1. The capitalization method, which uses capitalization rates and income to estimate the cash value of a firm.
  2. The excess-earnings method. Similar to the cost approach used in commercial real estate, this valuation helps you determine what a company is worth, in comparison to other businesses capable of similar economic results.
  3. The leveraged cash-flow method. This is a reality check because it helps reveal what kind of price the business can actually support.

Certainly, you can compute a valuation on your own, but it's a good idea to hire a public accounting firm and have an outsider check your homework. (Expect to pay approximately $5,000 to $10,000, depending on the size of your company.)

Protect intellectual property. Environmental issues used to be the biggest deal-busters, but today intellectual property creates some of the largest problems. Make sure your trademarks or service marks are registered and important inventions are patented or have been kept secret. Make sure the people who helped develop intellectual property were either your employees or had contracts with the company.

Doing a deal

Assemble your accountants, lawyers and bankers early, and keep them informed as a team. In a sales transaction, many factors overlap. Often attorneys enter the picture after the deal is already structured. Had they been consulted sooner, they may have been able to circumvent many problems. Example: If a C-corporation does an asset sale in lieu of a stock sale, Uncle Sam may sock it with a hefty tax bill.

Hire an investment banker. These brokers typically charge between 6% and 10% of the selling price. Unless you really understand the sales process and have a good attorney who's done several deals, it's a good idea. Why? You may know of a likely buyer, but an investment banker will know a lot more. What's more, bankers not only know who wants to buy, but who can and will buy. They can also help establish an asking price and move parties beyond impasses.

Get nondisclosures. Make sure that interested buyers sign nondisclosure agreements before you reveal any specifics of your business (basically, anything that isn't a matter of public record).

Narrow your bidders. Multiple bidders can help you get a higher price. Yet it's a good idea to limit the number of suitors. You don't want 50 people coming in and kicking the tires. A first meeting leads to a second and third, which quickly becomes overwhelming and time consuming. "About three bidders is the most you can handle," advises Marc Moore, founder of Payroll Transfers. "Otherwise, things get unwieldy, and after all, you still have a business to run."

Stay cool. You don't want to create a sense of urgency and suggest you're hosting a fire sale. Determine a price that's the bare minimum you want to walk away from the table with — and stick to your guns.

Accommodate due diligence. Expect an excruciating process (see sidebar). Be as accommodating as possible when a prospective buyer asks for information — provided, of course, they've signed a nondisclosure agreement. If you refuse to turn over information, it looks like you have something to hide. Granted, this is tougher when the potential buyer is a competitor. In that case, release information selectively, and save trade secrets until the very end.

Show me the money. Deals can be structured many ways:

  1. Cash.
  2. Note of debt paid out over time.
  3. Stock.
  4. Any combination of the above.

Get as much in cash as you can. A deal may be valued higher if it's done in stock, but those numbers could change dramatically a few months later. And liquidity events such as IPOs don't always happen. Do you really want to be stuck with stock in a private company that you no longer control?

If it's not a cash transaction, you should view the deal as a partnership of sorts, and conduct due diligence on the buyer.

When to tell employees

One of the most delicate parts of the sales process is when to tell employees. Unfortunately, there are no right or wrong answers. Much depends on what type of business you're in, how mobile your employees are and the buyer's intentions. In some deals, the buyer doesn't care if employees leave; in other instances, those employees are essential.

Whatever your situation, you need to confide in employees at some point — but not necessarily at the beginning. As soon as you do, the rumor mill starts, and your staff will be nervous and distracted. But if you wait until the bitter end, they may feel betrayed.

If word gets out before you're ready, don't lie or try to sidestep the question. Admit to workers, "Yes, we're considering a sale, but that doesn't mean it's going to happen." Be sensitive. Try to put yourself in their shoes.

After you complete a deal, the first few weeks are critical for employee buy-in. If you don't handle that transition well, a lot of folks will start circulating resumes. One solution: Staying bonuses can help stabilize your staff. Identify key people, and offer them a bonus if they remain under the new owners for a certain period.

The aftermath

Expect to sign some kind of noncompete agreement. After all, your buyers don't want you to start a competing business across the street.

Also expect to stick around for a little while — at least long enough to show the new owners where the files are. But if you decide to stay longer, make sure you construct an agreement with an escape hatch.

"Sticking around is usually good for the company, but bad for the founder," says Moore, who decided to stay a year after selling Payroll Transfers. He admits that there was tension: "As an entrepreneur, you're used to making all the decisions. Then you suddenly move from being the owner to being an employee and having to answer to people who have different ideas and objectives than you do. They don't care about you, your employees or your clients like you think they should. You feel like someone is trying to take your baby away."

You may also not be as effective, points out Denenberg: "Suddenly, you've taken your own money off the table and now you're managing someone else's. Your orientation changes; there's a natural inclination to become more conservative — and that may not help the business grow."

Seller's remorse. After you sign the papers, it's natural to feel deflated instead of elated. "In most cases, this business has been the major focus in your life, except for your family," points out Denenberg. "You may get a nice chunk of money, but there's a real sense of loss, and it takes awhile to get over that."

Writer: TJ Becker

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