Understanding Your Exit Options: The 1st Step in Designing a Successful Company Exit Strategy

One of the most important strategic decisions that a start-up company makes is planning its exit, as this is what allows a company and its founders to achieve its end goal… a successful, lucrative and painless market exit.

So when is it a good time for a company to start planning its exit strategy? It is never too early to start, for learning about your potential exit options and their likelihood could drastically influence your company’s product development, IT, personnel and product positioning decisions. These decisions can drastically affect the M&A appeal of your firm because M&A suitors place a premium on companies that do not pose major software or platform integration issues, those that have similar company cultures, and those that foster an environment where it will be easy to integrate into their IT infrastructure and product line-ups.

The first step in planning your company exit strategy is to identify the various exit avenues. The most common exit avenues are summarized below:

Initial Public Offering (IPO). You can sell your company via the stock market in an initial public offering. If successful, this route will yield the biggest dollar payout on average of any exit strategy. However, it is very expensive to facilitate an IPO, and you can easily spend half-a-million dollars on attorney and accountant fees and there is no guarantee that the price attained through an IPO will be a profitable one.

The reality is that there were only 96 US IPOs in 2010 and only 41 the year before that, so the probability of exiting in this manner is very low. In the technology sector, market estimates indicate that only 0.01% of technology companies successfully exit the market through an IPO. IPO market activity has been on the rise during the last year, so this is becoming a more relevant option than it was in 2007 and 2008, but activity is still a fraction of what it was in the mid-90s.

Strategic Acquisition. You sell your company to a strategic acquirer, who pays a huge premium for your business – typically greater than 5 times the revenues of the previous twelve months.

Strategic acquisitions typically are driven by one of the following two criteria:

1. A company has developed and patented game changing technology that would significantly accelerate the acquirer’s business strategy and/or…

2. The threat of a competitor acquiring a start-up’s technology is too risky for the strategic acquirer to take.

Being bought by a strategic acquirer is the second most profitable exit strategy. Similar to an IPO, it is extremely rare for a technology company to exit via a strategic acquisition. Classic examples of this scenario include Google’s acquisition of YouTube or Amazon’s acquisition of Zappos.

Acquisition. You sell your company to a non-strategic acquirer who pays a smaller premium, market value or slightly under market value to acquire your business. This method is tied for the 3rd most profitable exit strategy. PricewaterhouseCoopers reported that there were 4,251 global M&A transactions in 2010 and Reuters reported that more than 400 of these deals were venture backed acquisition exits, the largest number since records began in 1985.

Merger. You make a deal with another company to combine all or part of your company with theirs in return for stock or stock and cash in a newly formed company or division of a company. Some classic merger examples are Google’s merger with Admob and Southwest’s merger with AirTran. This method is tied for the 3rd most profitable exit strategy. One downside to this method is that it does not necessarily liquidate your business, but it does provide you with marketable stock that could be sold. Merger exits are not as common as acquisition exits.

Buyout. You sell your company to an employee or someone outside of your company via a private sales transaction. This can be someone inside the firm or someone outside the firm. The price paid can vary from significantly above market value to under market value.

Reverse Merger. Your company acquires a public shell company that is no longer active, but still is listed on a public stock exchange.By doing so, your company converts itself into a public company with stock that you can sell on the open market to convert some or all of your equity into cash. From a structural perspective, reverse mergers are cheap, relatively easy, and fast to execute. However, realistically, it’s extremely unlikely that a company will be able to attract significant market interest or high valuations via the reverse merger route if the company’s performance is not strong enough to justify an IPO, strategic acquisition or merger. Another downside of this route is that the newly formed company also handcuffs itself with additional regulatory compliance responsibilities that will drive up its overall costs of operation and decrease its competitiveness in the market. Thus, this is generally an ill advised strategy.

Financial Sponsor Sale. One of the more common exit strategies is a financial sale to a private equity or holding company that plans to restructure the company and/or re-position the company to improve its performance and prepare it for a strategic acquisition or an IPO. Most financial buyers will pay between 1 to 3 times the previous 12 months of revenue which makes this a rather attractive exit strategy.

Now that you know the potential exit options, you are ready to start thinking about and planning your company’s exit strategy.

In next week’s post, I will discuss the partial exit options.

Brandon Hickie
Brandon Hickie
Marketing Manager, Pricing Strategy

Brandon Hickie is Marketing Manager, Pricing Strategy at LinkedIn. He previously worked at OpenView as Marketing Insights Manager. Prior to OpenView Brandon was an Associate in the competition practice at Charles River Associates where he focused on merger strategy, merger regulatory review, and antitrust litigation.
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