In looking for the most profitable options to exit a successful business venture, we need to consider two constituencies — the founders who are actively involved in the business and passive investors, whether individual or institutional.
Many founders, and certainly most investors, grow a little weary around the five-year mark and want to see the significant upside they visualized when making their initial investment. And anyone who has ever started a business knows that founders often become tired of running a successful business because the real thrill (and the risk of the start-up) has since faded.
1. Initial public offerings
Although IPOs are often described as an exit strategy, they actually are not. They certainly are not for the founders, who are operating the company and severely restricted on disposition of their ownership interests.
An IPO may provide both valuation and some measure of liquidity to the passive investor. But again, a race to the sale window once shares in the company begin to trade on a national stock exchange rarely helps maintain the price of those shares.
An IPO may be better described as a growth strategy, since it will provide a number of different securities that can be sold in offerings with varying degrees of risk to the buyer to fuel company growth.
2. Merger and acquisition
True exits are usually only accomplished through sale, also known as merger-and-acquisition activity. There are two types of M&A transactions.
An M&A deal viewed simply as a “sales transaction” may be to a strategic buyer,who sees the value of adding the selling company to the buyer’s existing business operation for a variety of positive strategic reasons, whether client-based, geography-based or product-based.
An additional type of buyer is the financial buyer, or private equity fund that has focused because of its internal expertise on that particular industry, or is seeking to grow a portfolio company by “bolting on” the company that is now for sale.
3. Employee stock ownership plan
A less-frequently-discussed but also viable class of buyer is an ESOP.
An ESOP is a qualified defined contribution employee benefit plan designed to invest principally in the stock of the sponsoring employer. When the ESOP is a buyer, it can leverage the assets or stock purchased from the founder and can then, over a period of time or in a single transaction, purchase control of the company from the founder for cash.
Use of an ESOP can create an employee-owned company in which the majority of the company is held by the plan — and therefore by the employees. They function much like cooperatives and their structure can be very flexible.
When should the exit be considered? No matter which exit route is chosen, whether outright sale, partial liquidity event of an IPO or strategic merger, the process will consume, both in planning and execution, the better part of an entire calendar year, and will dilute the founder’s focus on the core of the company.
The conclusion would be that the best time to start and undergo the process is when the business is undergoing a significant increase in all the numbers that make it desirable and will have much of its own momentum to keep it moving positively on the graph of success.