There are many different ways for an owner to transfer the ownership of a business and make an exit.
You will probably first think of a sale to an outside buyer as the most likely method.
That is true, it is the first thing that comes to mind for most privately held business owners.
But there are other methods that you should think about.
Each has its advantages and disadvantages. Each has unique characteristics that make sense for some situations and not others.
Exits that are External To The Company
- Sale to an outside buyer outright. This is referred to above, and discussed in more depth in other posts. It can take up to a year to complete. This is probably the method where the seller will make the most on the transaction.
- Initial Public Offering (IPO). This is mentioned here but is not a likely possibility for most companies. To be a viable IPO candidate, the company usually needs sufficient revenues (or the prospect of revenues) and the publicly traded markets are receptive to IPOs. Revenues should be in the $100 million range, but lesser levels are possible in the right circumstances. The preparation and rules/regulations surrounding this type of exit is substantial and outside advisors are needed. It is expensive.
- Sale over time. The seller can sell a small (minority) interest and then structure the deal so the rest of the equity will be sold later. The time for this could be 3-5 years, for example. This may be a good way to structure the transaction as it allows the owner to be compensated for their investment immediately (in part) and be able to continue to be involved in the business. Later, maybe, the seller could receive a higher valuation for the business if it performs well.
- Management Buy Out (MBO). We discuss this in other posts too, but it is selling the business to key management. It can be an easy and logical transaction. But the seller may have to take back a note (earn out) to finance the transaction as management may not have the resources to buy the company on their own. Often, there is not an obvious internal manager that is ready to engage in a buyout.
Exits That Are Internal To the Company/Seller
- Employee Stock Ownership Plan (ESOP). This is a complex area that I will not discuss here. It is probably best used when a business is difficult to sell to an outsider because the employees are the most important asset in the company. These are often labor-intensive, service-type businesses such as accounting firms, law firms, medical practices, and so on. For those types of businesses, an ESOP may make sense. A major downside to an ESOP is that the seller may not receive payment for the sale of the business except over a long period of time.
- Recapitalization (ReCap). A recapitalization uses debt to allow the owner to capitalize on the value of the business. The owner withdraws the newly available cash and allows the business to pay down the loan and maybe sell the company later. Of course, the company should not have much debt to start with, to allow more debt to be added on. This is not really an exit, as the owner needs to stay involved with the business as an operator.
- Transition To Family Members. Many owners of privately held businesses would like to leave a legacy and leave the business to family members. This is understandable and a laudable goal. However, there are many potential pitfalls, including that the new managers (family members) may ruin the business through mismanagement. Plus the founder/owner may not be able to get much cash from the business in this type of transaction.
- Hire A CEO To Manage The Business. The owner can then retire and let someone else run the business. The owner can continue to benefit from the profits and dividends, etc. The company can be sold later. But all of this is contingent on the new manager doing a good job, and the business continuing to prosper. There is no guarantee of that.
Maybe the best way for an owner to maximize the returns from their time and money investment in a business is to sell to an outside, 3rd party. Often this strategy does require the current owner to stay with the business for a while, but the time of that can vary.
Each of the above methods has positives and negatives. What may be good for one situation and business may not be good for another. Different professional advisors will likely recommend one strategy over the others based on their own expertise and self-interest. I recommend that a business owner talk with a knowledgeable exit advisor to ascertain the best exit strategy for their situation.
