Everyone who starts a company will need an exit one day. No one can work forever; at some time you will want to (or have to) retire and/or your investors will want to sell their stock. An exit is how you monetize the value you have created in your company. You can either be intentional and plan for the exit, or unintentional, and likely not have a satisfactory transition out of the business.
I have a friend who is a dentist. He spent years building his practice and he made a good living from it. He consulted with advisors and built an exit plan. When it was time to retire, he sold his practice to another dentist. The acquiring dentist purchased the building, the equipment, the patient list and the reputation of the clinic. The sale turned the value of my friend’s practice into cash he could use to fund his retirement. Without that sale, he would have had no way to monetize the value he had created. Worse, he might have been stuck with a specialized building and depreciating dental equipment.
Angels invest in companies specifically designed for an exit. They expect the company to be acquired by another company. This is the way the companies create liquidity for their investors.
I’ve just returned from attending the annual meeting of the Northwest Chapter of the Angel Capital Association where I attended a exit strategy seminar with Basil Peters. Peters is a recognized expert on the subject, and is the author of the book Early Exits: Exit Strategies for Entrepreneurs and Angels.
According to Peters, only 25 percent of saleable companies successfully exit. Another 25 percent exit, but for less than might have been obtained. And 50 percent of those companies that could exit fail to do so; that is they fail to find a buyer and have to continue to operate, frequently in an increasingly competitive environment. Many of them ultimately fail.
Peters makes a number of recommendations to improve the possibility of a successful exit. While he is writing specifically for angels, his advice is also applicable to cash flow type businesses.
1. Every company should develop an exit strategy at the time of its founding, not years later. Company management should be intentional about how and when they intend to exit. For example, an exit strategy may be as simple as “Our exit strategy is to sell the company in about ___ years for around $___million.” My experience is most entrepreneurs have a very vague strategy along the lines of “someday we will be acquired.”
2. Make sure the management and the investors stay focused on the exit strategy by making it the first item on the board agenda at every board meeting. The board should begin its meeting discussing the exit strategy to be sure the company remains focused on the end game.
3. Recognize that companies are sold, not bought. Most people don’t wait for an unknown buyer to knock on the door of their home asking to buy it. When it’s time to sell it, they develop and execute a strategy. Yet many entrepreneurs seem to be waiting until someone discovers them and makes an unsolicited offer. Research shows unsolicited offers usually result in sub-optimal results, as it’s hard then to develop a plan to approach multiple possible buyers.
4. Engage an investment banker to help you bring the company to the market. Just as most of us engage a real estate broker to sell our homes, a banker knowledgeable in mergers and acquisitions in your industry will help you package the business, identify companies that should be interested, and approach them. The purpose is to try to create an auction market among multiple buyers.
5. Understand the threshold for selling an early-stage company is not based upon size or profitability. It’s based upon proving the business model. When management can reliably show it knows how to acquire customers that produce a margin, at a cost of less than the lifetime value of the customer, then it is ready to be sold to a company with the resources to grow the company rapidly.
My experience as an angel investor suggests to me that most companies are not nearly as intentional about the exit as they might be. For both companies built for cash flow and for those built for exit, be intentional about the exit. Have an exit plan, and let the plan inform the day-to-day decisions.
Kevin Learned is co-founder and director of Boise State’s Venture College, past president of the Boise Angel Alliance, and a member of Loon Creek Capital Group, which helps local communities create angel funds to support their entrepreneurs.