Timing your business exit

Strategic issues on the timing of an exit

As an owner-manager, you've poured your heart and soul into building your company. But what happens when it's time to step away? Do you have a plan for your retirement from your own business? Have you addressed the looming question of when and how to retire from the business you've built?

Many owner-managers find themselves in a predicament that leads to a rushed sale due to health issues or, even more challenging, leaving the responsibility of selling the company to their family after their passing. Such scenarios typically result in a lower valuation for the owner's life's work, underscoring the critical importance of proper planning.

In this article I delve into the essential points and reference the underlying legal aspects, to guide your decision-making process regarding the method and timing of your planned exit.

Understanding your motivation

For you, the business owner, the decision to establish your own venture likely stems from motivations beyond mere financial gains or the creation of a sellable entity. Passion for a product or service, the desire for independence, and commitments to staff, customers, and suppliers may often outweigh the singe minded pursuit of the highest sale price. In the realm of exit planning, advisers specializing in owner-manager scenarios play a pivotal role in guiding you through the process, emphasizing the understanding of non-financial motivations in the decision-making matrix.

The growth life cycle of your company

Let's explore the trajectory of a typical company's journey, marked by inflection points termed as 'chasms.' These points, numbered one, two, and three, signify crucial phases. The chart we'll be referring to outlines the likelihood of a startup phase, where losses may precede successful product or service launch.

Statistical insights indicate that one-third of companies face failure within their initial three years of trading (source: "Small Businesses – An Anthropological Insight" by Paul Hague, B2B International). Successfully navigating the challenges before 'chasm one' is imperative; a company sale before this juncture might be viable, with potential buyers seeking specific technology or intellectual property. However, failure to cross 'chasm one' often leads to a distressed sale, necessitating the write-off of invested time and cash. Skillful professional guidance, including that of an insolvency practitioner, may salvage elements of the business, even if it's just securing employment for you and your team.

Assuming confidence in your product or service, the subsequent growth of your business hinges on the recruitment or training of a well-rounded management team. Crossing 'chasm two' presents a formidable challenge but unlocks significant potential value. Efficient management, systematized processes, and sustainable plans for production, marketing, and finance become critical at this stage.

Ideal exit timing

The ideal time for a sale aligns with the steep growth curve post 'chasm two.' A sale at this juncture positions your company as an attractive prospect for buyers seeking real growth potential. Waiting until the peak of the growth curve may disappoint with the offered price, often based on profit multiples. High multiples depend on convincing buyers of future growth potential.

Beyond the plateau

Companies reaching high but plateaued profits may face a downhill trajectory. Exploring overseas markets or introducing new products or services may be necessary at this stage. The viability of these options varies based on market size, growth potential, and competition levels. New markets with few competitors might enjoy higher margins, while mature, highly competitive markets could result in lower selling prices.

The prevailing market for company sales in your industry

Regardless of a company's fundamentals, the prevailing market for company sales significantly influences outcomes. Depressed stock markets and a shortage of bank debt can create a poor market for an extended period. A strategic buyer, such as an industry consolidator, may drive higher prices in specific market sectors.

Management team profile

In the current market landscape, the management team often emerges as the potential buyer. Strengthening this team becomes crucial, addressing skill gaps left by the exiting owner. Evaluating the needs, capabilities, and motivations of the existing management team is imperative for sustained business growth.

Barriers to a sale

As you contemplate selling your business, it's crucial to be aware of potential obstacles that could impact the process. Here are some common barriers to consider:

Over-dependence on a particular person:

If your company hasn't identified the processes or skills that contribute to its success, its strength may lie in a few key individuals. If they were to leave, the business might struggle to achieve previous levels of profit. Recognising and addressing this reliance is vital for a smooth sale.

Over-dependence on a key customer:

Companies are often set up to cater to a specific customer, making the business highly dependent on their continued patronage. A buyer may hesitate to pay a premium for such companies unless the key relationship is secure, and there's confidence in winning new business. Selling the company at an acceptable price could be challenging otherwise.

Not owning key intellectual property:

In cases where a company is founded on intellectual property it doesn't own (common in software companies, especially those based on freeware), vulnerability to competition arises. Buyers seek assurance that the company's position is secure and that it won't face legal challenges related to intellectual property.

Over-dependence on a key supplier:

If your company relies on a small number of suppliers that aren't easily replaceable, it becomes vulnerable to disruptions such as withdrawal of services or significant price hikes. A buyer is unlikely to pay a premium unless confident that suitable replacements can be found on satisfactory terms.

Obsolete technology:

Technology companies, despite having profitable products or services, can face challenges when their offerings become outdated due to newer alternatives. Buyers are cautious about companies not staying ahead in the marketplace or those with a limited range of successful products/services.

Owners with differing personal objectives:

If there are multiple owners with conflicting opinions on the company's future direction, it creates a confusing image for potential buyers. This often arises from differing objectives, where some owners seek ongoing income or control, while others aim for immediate capital return or see opportunities in the acquiring business.

Legal disputes with customers or former customers:

A significant legal dispute can cast doubt on the quality of your product or service, impacting a buyer's confidence in a successful return on investment. Buyers are inclined to offer higher multiples when there's certainty, and any threat to that certainty can undermine the seller's position. It's crucial to resolve legal matters before entering the selling process.