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Many startup business owners are under the impression that their venture will last indefinitely and that they will be steering it. Yet experienced investors know that having an exit strategy is the sign of a mature business owner, and thus can act as a confidence-booster for the angel investor. There are at least two reasons why it’s important to have an exit strategy. First, you as an investor want to collect your return (i.e. when you cash out or the business is sold). Second, an entrepreneur should “love the starting phase” of setting up a new company.
In this short guide, our investment team here at Bure Valley Group offers this summary of five possible exit strategies for the consideration of both investors and business owners. We hope you find this content helpful. Find out more about our EIS and other investment opportunities by visiting our portfolio page here.
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#1 Merger & Acquisition (M&A)
One viable exit strategy for a startup business owner is to have it merged with another company which offers a similar set of products/services. An acquisition, on the other hand, involves the purchase of the business by another company.
These options can be sensible if the startup in question could plausibly offer another company a quick route to expansion. In certain cases, moreover, the former’s team, resources and skills could compliment those of the latter if they were combined. However, sometimes a competitor might want to purchase a startup (i.e. a new entrant to their marketplace) to shut it down and eliminate the threat to its market share and value proposition.
If the startup business owner is proposing this as a potential exit strategy to you, then a viable plan should be shown to you – identifying possible buyers far in advance. The startup should also be exhibiting an emphasis on making its business as attractive as possible for potential future buyers (e.g. through excellent branding).
#2 Initial Public Offering (IPO)
Another possible exit route is to “go public”. This occurs when the business sells its first stock to the wider public. This will likely not be the route for most startups, but it can be a profitable route for the minority which achieve it. It’s important to remember that going public tends to be costly and lengthy, since high standards needs to be met (e.g. compliance and reporting). Investors should also bear in mind that capital may not be possible to withdraw at the time of IPO, since shareholders may require this to expand the business.
#3 Sale to an individual
Selling to a friend, family member or other trusted individual is not like a M&A – which involves merging two entities into one. This can be quite an attractive route for investors, since it allows the startup owner to “cash out” easily and pay you. However, a future sale to an individual is not guaranteed and purchase offers may come in lower than expected.
Sometimes called “gradual liquidation”, this drainage approach can be attractive to a business owner who can generate high cash flow without requiring constant attention/management. Here, the profit is extracted over time (e.g. via dividends) until the business owner decides to sell.
This approach can come with its downsides, however. Other shareholders in the company may not take kindly to this approach, and may demand similar payments to stay their dissatisfaction. Also, withdrawing profits in this way can strangle the growth potential of the company which, in the future, may affect its sale value.
Sometimes the word “liquidation” is equated with the idea of failure. Yet this is not necessarily the case. It depends on why the business was liquidated. Sometimes this is the result of poor business planning. Other times, it can be a viable exit strategy for a small business – especially if there is only one/two owners involved.
The big advantage of this exit strategy is that it is relatively straightforward and fast. If there are assets to sell (e.g. the company name), then the process is usually completed once these are disposed of. Yet there are also disadvantages to this approach which also need considering.
First of all, liquidation is not typically in the best interests of employees – since their jobs cease to exist once the process is completed. Loyal customers are also likely to be unhappy. It can also be quite a wasteful option compared to selling the business, since intangible assets (e.g. your customer list) often cannot be sold – even though they can hold great value. Yet for the investor in the startup, liquidation can be a viable option since creditors and other investors usually get the first claim on the cash raised from the sale of assets during the liquidation.
Investors and startup business owners both have an interest in ensuring that a venture has a viable exit strategy from the very beginning. The best option in each case, however, will depend on a range of factors such as the business model in question, employee interests, customer base, competitive environment and investors’ interests/goals.
Get in touch today to start a conversation with our team, and discuss some of the great investment memorandums we have available here at Bure Valley Group:
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