What options do owners have when considering an exit strategy? There are several options, and each has its place. Here are 9 exit options available to private business owners and some of the advantages and disadvantages of each:

Option 1. Transfer to Family

Many business owners hope their children will carry on their business, yet in practice few family businesses transfer to the next generation, for various reasons. Advantages of this option include keeping the family close, providing careers and income for children, and being able to control your departure date. Challenges include mixing family dynamics with business, potential for perceived favoritism among children, a lower selling price, and increased financial and timing risk for you. With careful and comprehensive planning however, these disadvantages can be minimized.

Option 2. Sell to Other Shareholders

One of the benefits of having partners is having a ready market for your shares when it’s time to retire. If done right, the deal has been structured ahead of time to suit everyone’s needs, a valuation and funding approach is in place, your successor has been groomed, and the business is performing well and poised for continued success. Advantages include a fair degree of control over timing, and preserving the mission and culture of the company. Also, having partners allows you to build a stronger business from financial, management and risk standpoints. You’re forgoing the possibility of achieving a price premium through an M&A sale process, and your stock could be subject to minority interest discounts, depending on the terms of your buy-sell agreement. See Buy-Sell Agreements.

Option 3. Sell to Management

Selling the company to all or part of the management team is often called a management buy out (MBO) or management led leveraged buy out (LBO). Here, management uses the assets and cash flows of the company to finance most of the purchase price, with the equity portion supplied by management or a Private Equity (PE) investor, depending on the size and nature of the company. This exit option often appeals to owners because it keeps the business within the extended family and intact. The business must have a solid earnings track record and management must have the necessary experience, knowledge and long-term commitment to attract lenders and PE investors. This requires planning and early preparation on your part. Disadvantages are that PE investors are aggressive and disciplined partners, which can create a cultural rift; seller financing is often needed to get these deals done, which increases your risk; and these sales typically take place at Fair Market Value and do not include a strategic sale premium. It should be noted that some PE firms will also invest alongside family and shareholders in the options discussed above.

Option 4. Sell to Employees through an ESOP

This option has many of the same advantages as selling to management, but with some important distinctions. In a sale to an Employee Stock Ownership Plan, or ESOP, all employees can participate, not just management. An ESOP establishes an ownership culture within a company and creates an employee retirement benefit. It has attractive tax benefits. Sellers can defer the taxable gain on shares sold to an ESOP, and the ESOP can purchase company shares with pretax dollars. At the same time, ESOPs are complicated and expensive to set up and maintain due to strict Department of Labor and IRS regulations. An ESOP sale is generally a gradual process, where the ESOP’s ability to purchase all of your shares over time will depend on the company’s future financial success. It doesn’t always work out.

Option 5. Sell to a Strategic Buyer

Selling to a third party through a structured M&A process is usually an owner’s best opportunity to maximize value, cash out and move on. The M&A sale process gives you access to strategic buyers with synergistic motives and generates competitive bids, usually on better terms than internal buyers can afford. On the other hand, sale processes take 9 months on average, and if your management team isn’t prepared to run the business or the buyer isn’t able to replace you immediately, you may need to stay on as an employee, which can be difficult after calling the shots for so many years. One of the first questions when deciding when to sell is “what’s my business worth?”  See Selling a Business.

Option 6. Recapitalize with an Equity Investor

A recapitalization is a two-stage exit. In stage one, the structured M&A process results in the owner(s) selling a minority or majority stake in the business to a Private Equity (PE) group, and achieves partial liquidity. The seller usually, though not always, stays on to run the company. The PE partner can provide needed growth capital and operational and financial oversight. In stage two, usually within 4-6 years, the seller and PE partner market and sell the company for their final exit. Advantages of this exit option are partial liquidity and asset diversification, access to growth capital, and the prospect of selling your remaining shares at a higher price. On the down side, partnerships don’t always work out, and recapitalizations, which generally involve a significant amount of debt financing, increase risk for the business.

Option 7. Go Public

Going public is not a realistic option for the vast majority of private businesses, bur it has its place. Exit Strategies sells private businesses to public companies when its appropriate, but we don’t take companies public.

Option 8. Liquidate

When there is no one to buy a business as a going concern, the owner shuts it down, sells off assets, collects receivables, pays off bills and any debt, and distributes the remaining cash to shareholders. For businesses that exist only due to the skills and labor of the owner(s) or are asset-intensive and produce little or no profit after compensating the owner(s), orderly liquidation is often their best option. In most liquidations, little or no value is received for the company’s intangible assets, which is the main disadvantage. Also, employees lose their jobs and in some cases the cost of liquidating can be high. The main advantages of liquidation are that the process is straightforward and can usually be implemented on a short and predictable time frame.

Option 9. Annuitize the Business

Another option is to convert your owner-operated business investment into a passive annuity by transferring the responsibility of running it to others. You exit employment, but not ownership. This may require hiring a top-notch CEO and upgrading the executive team. The idea is to relieve you of day-to-day management and still provide regular income. You can keep a board seat and be involved in some (or none!) of the major decisions. Depending on your personal goals and needs, you can take minimum distributions and reinvest in long-term growth, or maximize short term shareholder distributions (milk the proverbial cow). While simple in concept, this option doesn’t always work.

Evaluating your options with the help of an exit planning expert can increase your chances of success. Contact us for further information.