Exit Strategy: How to Develop a Successful Business

What is your Business Exit Strategy?

Introduction

To most people, starting up a business company is one of the most cherished activities they undertake, notwithstanding the factors of time, capital, and commitment that the activity calls for. However, there is one thing that all business owners have to think about at some point: exiting their business. For business owners, whether planning to retire, start other businesses, or even expand their business and take their children through it, having a strategic economic exit is essential for the exit process, value realization, and preserving their business.

The creation of a successful exit strategy is not a one-night stand. This takes a good deal of time. There are financial and emotional angles and several discernible models, including M&As, floating the company through an IPO, and outright selling. Forbes quotes that about 80 % of business owners lack an exit strategy, which often means significant loss of money and missed chances at exit. This blog will also discuss business owners’ strategies to achieve a successful exit based on planning, valuation, timing, and selection of exit modes anchored on available theories and models.

The Importance of Planning Early

One of the factors that define an effective exit strategy is planning. Some business owners fail to prepare the exit strategies they are supposed to develop when the business is still on, which leads to losing the business value. A study done by Harvard Business Review shows that firms that develop their exit strategy and time it to five years in the future are likely to make 25% higher sales value relative to those that act instinctively. It is more helpful if planning is done early because entrepreneurs will have time to work on their business, financially turn it around, or right the processes to make the industry attractive to potential buyers.

Early entry also aligns well with their exit strategy and other goals, both personal and professional. Exit strategies, therefore, depend on the objectives set, which may include retirement, starting a new business, and transferring the company. For example, a businessman wishing to continue operating the company after being bought out by new management might sell the enterprise to an employee. However, one who wants to have it sold outright to make some profit selling the company will sell it to a private equity firm.

Valuing Your Business

One of the most critical aspects of any exit strategy is accurately valuing the business. Valuation plays a central role in determining the success of the exit, as it helps to set realistic expectations and ensures that the owner receives a fair return for their years of hard work.

Several models can be used to value a business, including the Discounted Cash Flow (DCF) method, which calculates the present value of future cash flows, and the Comparative Market Analysis, which looks at the sale prices of similar businesses in the same industry. Business owners can also use the Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) multiple to understand the company’s value based on its profitability. According to Forbes, businesses with strong EBITDA margins often sell for higher multiples, typically 5 to 12 times EBITDA, depending on the industry.

Timing Your Exit: The Strategic Importance

Timing is everything when it comes to exiting a business. Selling at the wrong time can lead to significant financial losses, while exiting during a boom cycle can yield substantial returns. The right timing is often influenced by several factors, including market conditions, the business’s financial performance, and the owner’s personal goals.

There are external factors such as the business cycle, the state of the industry in which the business operates, and changes in laws regulating businesses; hence, owners of companies should pay attention to the trends in business value. For instance, companies should look for higher multiples to sell during an economic upturn owing to newfound business confidence. On the other hand, it will be expensive to sell during a recession because customers are calculative and will only offer lower offers on the asset.

A vivid example is the sale of the instant messaging application WhatsApp to Facebook for $19 billion in 2014. Being founders, WhatsApp retried at the right time, when the mobile messaging market peaked. If they had delayed their actions, they could have missed the chance to reap profits out of Facebook’s eagerness to take over the mobile communication niche.

Exit Options: Choosing the Right Path

There are several ways to exit a business, and each option has pros and cons depending on the owner’s objectives, the financial health of the business, and market conditions. Some of the most common exit options include:

• Selling to a Strategic Buyer: This involves selling the business to another company, often a competitor or a business looking to expand into new markets. A strategic buyer may be willing to pay a premium for the business if it fits well with their long-term goals. For example, when Microsoft acquired LinkedIn for $26.2 billion in 2016, it was a strategic move that allowed Microsoft to enhance its professional networking capabilities.
• Selling to Private Equity: Private equity (PE) firms acquire companies to make them better and then sell them for a profit. This option can benefit business owners who wish to sell part or complete stake and still gain control of the business they founded. The priority that private equity firms tend to seek is operational efficiency, and the next factor is the revenue and, finally, market share before exiting the investment. Harvard Business Review reported that through PE deals, businesses are sold again at even 2-3 times the original purchase value in 5-7 years.
• Initial Public Offering (IPO): Publicizing a company through an IPO allows the business to raise capital by selling shares to the public. This option can be highly lucrative but comes with increased regulatory scrutiny and reporting requirements. For example, when Uber went public in 2019, it raised $8.1 billion, providing early investors and founders with a significant return on their investment. However, the IPO process is expensive and time-consuming, and not all businesses are suited for this exit strategy.
• Management Buyout (MBO): In an MBO, the company’s management team often purchases the owner’s stake through the credit facility. This option is preferred by business owners who want to stay in charge or ensure the company’s culture remains unchanged. Unlike typical businesses, MBOs can also be organized so the owner can let go but still have some stake in the industry. An MBO that could be seen as successful is the acquisition of Asda in 2021 by the firm’s management and TDR Capital at a $8.8 billion evaluation (Reuters).
• Family Succession: succession planning is critical for business owners desiring to retain their firm’s ownership within their family. However, when a business is passed down to the next generation, it is not without some form of hitch, such as intra-family conflict within the industry, besides a lack of well-developed governance structures. Based on the Harvard Business Review, the cross-generation transition failure rate in family businesses is as low as 30%, hence the need for constant planning and good communication.

Financial Considerations: Tax Implications and Profit Maximization

It is quite clear that exiting a business can have severe financial consequences, especially in taxation. This is because business owners have to know the tax implications of the chosen exit model to avoid any nasty surprises. For instance, selling a business may attract capital gains and tax relief, significantly diminishing the eventual sale amount.

The business owners consult their financial consultants to minimize the tax they make when closing the deal. A standard method is an installment sale whereby an owner sells a property and receives the sale proceeds in installments over several years. This allows the owner to defer tax payments or even transfer to a lower tax banding. Prefab businesses may sell their businesses to an ESOP, a technique that provides substantial tax benefits for the owner of the industry and the employees who have some worth in the business.

Multiple sources indicate that companies receive numerous benefits from becoming an ESOP company. By 2020, Forbes stated that a selling business entity has the opportunity to defer capital gain taxes and make deductible contributions, ultimately leading to higher net payout for the sellers. In addition, an ESOP can enable the business to maintain its lineage because it will be handed over to the staff who have nurtured the firm.

Emotional Aspects of Exiting a Business

While an exit strategy’s financial and legal aspects are critical, business owners should also consider the emotional toll of selling their company. For many entrepreneurs, their business is more than just a source of income—it represents years of hard work, sacrifice, and personal identity. Selling a business can feel like letting go of a part of oneself, leading to feelings of loss or uncertainty about the future.

To mitigate these emotional challenges, it’s essential to have a clear plan for life after the sale. Whether starting a new business, pursuing hobbies, or spending more time with family, having a vision for the next chapter can help ease the transition. Additionally, working with a trusted advisor who understands an exit’s financial and emotional aspects can provide valuable support during this process.

The Role of Advisors and Legal Considerations

In most cases, coming up with a good exit strategy is a team affair, which involves financial planners, lawyers, and accountants. This is a good point whereby these advisors assist the business owners in coming up with the right valuation, the best tax strategies, and legally binding documents for the sale process.

The purchase and sale agreement is one of the most essential legal factors determining the kind of sale, price offered, mode of payment, and contingencies in the sale. It means this document has to be necessary for selling to ensure the wishes of both the seller and buyer are well understood. In the view of HRM, this can be avoided by having an experienced legal team that enables efficient company sales.

Case Study: The Sale of WhatsApp to Facebook

One example of an exit strategy widely highlighted in the media (Forbes) is the sale of WhatsApp to Facebook for $19 billion in 2014. WhatsApp, which Jan Krolian and Brian Acton founded, emphasized the user interface and grew to accommodate more than 600 million users at the time of its selling. Facebook, seeing WhatsApp’s value and the future growth it brought along, made an offer he could not reject.

Koum and Acton’s decision to sell resulted from the following factors: the competition, the stability of the business, and one’s desire. By choosing to exit at the right time and aligning with a strategic buyer, they secured a significant return on their investment and ensured WhatsApp’s continued success under Facebook’s ownership.

Conclusion: The Path to a Successful Exit

One of the most critical strategic decisions an entrepreneur will make is when to exit their business, and there are generally three approaches to how this can be done. This is because when a business owner is strategic in planning how to leave a business, how to fairly assess the worth of the industry, and which kind of exit route is appropriate, then the best value of the company will be obtained, and the transition will be seamless.

A successful exit strategy, whether for a strategic buyer, a going public or going to the next generation of the business, is crucial in the long run. With such endless advice from trusted professionals and having a clear vision of the financial and emotional value of the exit, the entrepreneur can go through this complicated phase to get the best result for himself, his business, and his vision of the future.