Preparing for Exit Part 3: Continuous Adaptation
Disclaimer: This post discusses general legal issues, but it does not constitute legal advice in any respect. This post is not a substitute for legal advice and is intended to generate discussion of various issues. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel. Cara Stone, LLP. and the author expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this post. The views expressed herein are personal opinion.
In part one and two of our preparing for exit series, we talked about tips to help you be in the best position possible when you talk to investors and acquirers about an exit. In part three, we want to address the need for continuous adaptation and some of the conventional and non-conventional ways that companies exit and what impact this can have on founders.
There are a lot of different exits. From big exits such as an IPO to smaller buyouts, founders must be adaptable to changing market conditions, changes in the product, or other factors that may impact when and how a company can exit.
In part one, we talked about mapping out a financial strategy for your company including how the company could potentially exit. Here we’ll talk about 5 possible ways a company can exit. Keep in mind, the options for exit are numerous and each deal can have unique and varying terms.
Below we merely intend to provide an overview to demonstrate the importance of flexibility as a company grows.
An IPO is probably the highest-profile and the rarest way a company can exit. IPOs involve registering with an exchange and issuing shares of stock to the public for the first time. As a result of this process, the company can raise capital in exchange for giving up partial ownership of the company. The initial price and number of the shares is determined by the underwriter through a process of due diligence. Typically, during the IPO process, a financer or investment banker goes on a roadshow to pre-sell the stock to help gain momentum and excitement in the market. This process helps to ensure the stock’s success. Because of all the steps involved, IPOs can often be a lengthy process.
Compared to other exit strategies, IPOs can be very expensive, and they require the company to disclose important financial information that private companies do not have to report. Additionally, the owners face a loss of control because a board of directors is elected to represent the shareholders’ interests when making decisions regarding the company. However, IPOs allow the company to gain access to significant funding and exposure to the public eye due to their high-profile nature. While the marketing of IPOs has opened a little, an IPO is still a very big and very rare event.
Reverse Merger IPO –
A reverse merger IPO, sometimes referred to as a reverse takeover, is a subset of IPOs through which a publicly-traded dormant “shell” company raises money into an entity by merging with an active private company. The entity then goes out and purchases a private company to inherit the entity. Through that process, the company that is purchased becomes public. Unlike an IPO, this strategy eliminates the need for the company to raise capital or appoint an investment bank to become public. The company can benefit from greater liquidity and more financing options without undergoing the lengthy IPO process.
Reverse merger IPOs typically take far less time and cost significantly less money than an IPO. Reverse merger IPOs are also rare, but several well-known companies have chosen them as their exit strategy.
Private Equity Exit –
Companies that have managed to achieve a stable, positive revenue stream and predictable future growth may consider a private equity exit. In this exit strategy, an acquirer or company comes in and will typically buy out the founder and stockholders for a combination of cash and equity in the acquiring company. The details are determined through an agreement by the two parties. Private equity exits are most popular among tech and IT companies because they tend to attract investors due to their high potential for returns. During these deals, founders and management may continue to run the business or may be appointed to a new position at the new entity.
While private equity exits may not be as flashy as an IPO, they are common and can be a great option for founders who fit their profile. More private equity funds are looking for acquisitions, creating higher deal competition and valuations which translates to better exit opportunities.
An acqui-hire exit occurs when a company that is struggling gets bought by another company that has a similar product or business model. Acqui-hire can be a good exit strategy for businesses that have a high growth rate but are not yet profitable, or for companies that have found a unique way to solve a problem but lack sufficient funding to achieve their revenue goals. In an acqui-hire, the employees are considered the most valuable asset gained by the acquiring company and gaining top talent is often the primary motivator. This difference distinguishes an acqui-hire exit from a traditional acquisition.
Acqui-hire exits may be the best and most viable exit strategy for companies that are underperforming. As with private equity exits, depending on the deal terms, the CEO may stay on and continue with the new company or may be free to move on to other ventures. Like private equity exits, aqui-hire exits are particularly popular in the tech sector, and the number of this type of exit seems to be increasing. Companies such as Twitter and Dropbox have completed aqui-hire deals.
Another option that companies run into when they look at an exit strategy is selling their IP or licensing their software to strategic partners. Sometime acquirers will come in and see value in parts of the business outside of what the company’s primary objective is, or they may be willing to buy out the founder in a non-traditional way. These are good opportunities that can lead to the potential to generate a significant amount of revenue for the founder, while also limiting R&D costs for each company. By undertaking a licensing agreement or partnership, the two companies have the chance to work alongside one another for an amount of time to determine whether they would like to continue the relationship in the future or decide to switch to a purchase agreement at a later date. This strategy can create more opportunities for exit for a company than the other strategies. It also provides the benefit of potentially generating continued royalties’ payments if the IP is successful.
Determining your goals for an exit and being adaptable to the terms of different types of acquisitions is important. Take some time to reflect on the following and think about how important each of these factors is to you:
- Consider your future role in the business
- Think about the return you expect to get from your investment
- Evaluate the financial and non-financial needs for the business to grow
- Think about where your company fits into the market as a whole
- Consider future market conditions that may affect your business
Considering how you feel about these factors will help you determine how to go into negotiations leading up to an exit and will help you evaluate the best way for your company to exit in the future.
Talk to An Expert
Cara Stone, LLP works with companies at all stages of their life cycle on setting up a corporate structure to ensure their exit goes smoothly and successfully.
Disclaimer: This post discusses general legal issues, but it does not constitute legal advice in any respect. This post is not a substitute for legal