In celebration of National Small Business Week May 4-8, we’ll be bringing you some of our favorite tips for starting or building your own business. #DreamSmallBiz
Yesterday, we asked you to stop the stupid stuff your business. Today, we invite you to devise an exit strategy for your business. What exactly do we mean?
One of the biggest detriments to a lot of the small businesses we’ve worked with over the years has been the lack of an exit strategy. Many entrepreneurs focus only on planning for the startup phase and don’t even think about anything beyond the first 5 years — since that seems to be the “magic number” that’s thrown around so much: “Most small businesses fail in the first 5 years.” So they assume that if they can make it through the first 5 years, they’re golden.
Other entrepreneurs don’t even plan the startup phase; they just fly by the seat of their pants the entire time, keeping all their “plans” in their head and letting the chips fall where they may, while struggling frantically to keep up.
Obviously, that just makes an already challenging situation (starting/running a small business) infinitely harder than it needs to be, especially if you want to attract partners or investors to your business.
Many investors are only interested in investing money into an enterprise for a limited amount of time. They want to know when they will get their money back and what sort of return they will be receiving at that time. Both issues are closely linked. Therefore, if you ever intend to pitch to potential investors, when preparing your initial business plan you need to make sure that you have outlined your long-term plans and a sound exit strategy.
You will have to ask yourself a few questions about your own personal plans regarding the business.
Do you wish to stay involved in this business in the long run, or are you more interested in getting it off the ground and letting someone else take over from there? These are the kinds of questions you should answer in your exit strategy.
It is important that you be brutally honest about your true intentions with regard to the business; if you prepare an exit strategy that is not in line with your true desires, it will be all for naught when the time comes to put that plan into action.
You will also need to know a little about the investors you are pitching to, and what their expectations are regarding the future of their investment.
Aside from the typical institutional investors (i.e. getting a loan from a bank and paying it back over time), there are some other options you may want to consider:
- If you are dealing with venture capitalists, you need to be aware that they are looking for a high return. They will generally be expecting the business to go public at the end of the investment period, or make some other high-profit move like selling to or merging with one of the big names in their industry. The period a VC is willing to invest is about three to seven years, so you will need some sort of high-return exit strategy planned for the end of that period, and preferably a backup “Plan B” if your “Plan A” goes south. However, you should not opt for going public unless you are confident that it is a realistic goal for your company, and you have the data to back it up. Public offerings are very rare for small businesses, and the investors you are speaking to will be all too aware of that fact.
- If you are considering an angel investor, then they will also be looking for a high return, though maybe not as high as the VC. They will also probably not be overly concerned with the “type” of exit strategy under consideration, as long as it seems sound. They will be less sophisticated than the venture capitalists or institutional investors you may deal with, and are more likely to be involved because of a personal relationship to you or the business. This is especially true if you’re running what’s referred to as a “social business” or cause-driven business whose aim is to make the world a better place for everyone. While businesses with a philanthropic mission typically attract investors who are less “about the money,” they still want to see a return on their investment, and a viable exit strategy in place.
Even if you’re not looking for partners or investors, you should still have an exit strategy in place, for your own peace of mind.
There are a number of exit strategies you can consider:
- The most basic exit strategy would be to simply bleed the business dry. This can be done by giving yourself a huge salary, or making large payments to investors, regardless of the performance of the business. While it is not appropriate in most cases, there is no doubt that it can get a lot of your investment back out of the company in a short time and satisfy your financial obligations to your investors.
- Another simple option is liquidation. Simply close the doors, cease operations, and wait for the city, state or federal government to step in and sell off the assets of the business, usually for pennies on the dollar. Proceeds will be used to settle the debts of the business, and then whatever is left over will be allocated to the shareholders. Of course, if there’s not enough to cover the debts, you may become personally liable, so this is a risky option. You can also hire an attorney to handle the liquidation for you, which would yield much better results, but still not ideal.
While the two options above are quite effective, they are professionally frowned upon so you may wish to propose a more sophisticated exit strategy if you wish to impress potential investors:
- Another option could be selling to a friendly buyer. While you may have come to the end of your relationship with the business, there may be many people who would be saddened to see it end and may be willing to step in and take over. This might include passing it on to another member of the family, or selling it to employees or customers. There are many businesses where this is a realistic option, however it is difficult to predict at the beginning of the venture.
- Another option is acquisition. This is when a rival firm, usually one wishing to expand, agrees to buy you out. You can negotiate the price and terms with the buyer and there is a good chance that you can make it a win-win for everyone involved and sell for a very attractive price, because together with your fixed (physical) assets, the buyer will be willing to pay for good will, market share, client contacts, etc.
- The IPOs that we previously talked about are the final option. These are potentially the most lucrative of all, but when reality kicks in, they might not seem like the dream you thought they were. In reality, a minuscule percentage of companies manage to make it through an IPO. The process costs millions, includes lawyers, analysts, publicity agents and a lot of other costly professionals. The odds are against you ever making it. And if you do, you will probably be left with only a fractional share of the company you used to own.
So take some time today to consider your exit strategy, and write it down!
Put it in your business plan. Revisit it regularly to make sure it’s still viable, and you’re still on track toward meeting that goal.
Next, we’ll talk about how to ensure that your business has a happy ending.
Learn more about Small Business Week at https://www.sba.gov/nsbw