Monday 5 October 2015

What about this whole exit thing then?

The exit conversation is rarely far from an early stage company's Board agenda. When is the right time to start it?  How much should it inform strategy?  Is there a minimum price we are aiming for?  Is that customer or distributer actually a potential exit partner?

The exit conversation is unavoidable but not always voluntary.   One of the familiar transitions an entrepreneurial CEO has to make is when they take on external investment.  All of a sudden they are not just responsible for building their own value but also that of the investors’ money they are spending from that day on.  The freedom and autonomy of being an entrepreneur needs to be tempered by their new responsibility for the nest eggs of their investors’ families and their families too.  While Angels may be told not to invest money they cannot afford to lose - this does not mean entrepreneurs should treat the money as flippantly.

There are some common phrases I hear:  

  • Someone wants to buy me - what do I do now?
  • Not enjoying this anymore - how do I sell up?
  • Can I really hold my head up as a successful entrepreneur if I have not exited?

The answer to the last one is clearly yes - so let’s close that one off now.  If you have created value for customers, created jobs, at least generated a return in dividends (at yield of greater than 5 to 10%) to major stakeholders and still growing after 5 years then clearly you are an exceptional entrepreneur.  If this is all aligned with any investor expectations then even better.

However, are the other entrepreneurs asking the questions in control of their own destiny?  Are they starting partner discussions on the front foot?  Are they likely to be pleased with the outcome when it happens?  Will they get the valuation they think they deserve?  Will they get the right up-front cash payment and limited earn-out/lock-in they would prefer?  Will it free them up to do all the other things they actually want to do with their lives post sale?

Equity generates capital appreciation and income (through dividends) - investors have different preferences but capital appreciation is rarely achieved in any other way other than an exit - trade sale, float, MBO etc.  As soon as there are external investors on board the life-style business option disappears and then the challenge becomes one of aligning the vision of the investors and the ambition and actions of the entrepreneur who still relishes the control that not working for a mainstream employer gives.

I do not advise generating a strategy for the company based on exit considerations, but the strategy needs to be checked against whether it is really going to deliver the exit potential the entrepreneur and shareholders need.  A great business for customers and employees is usually a great business for its shareholders too - if the company is doing something unique for customers that is defensible and scalable, in a market that is sizeable and growing, then it is highly likely someone out there will want to buy it.  

This all means building long term capital value in the company from an early stage - ensuring that any potential acquirer will find it cheaper and easier to buy your company rather than someone else’s or build it themselves.  Here are my initial list top tips to making sure this happens:

  • Focus from the very beginning on what makes you unique and what needs could not be satisfied without you - never lose sight of the vision, purpose, values and strategy regardless of how painful day-to-day cash management activities can be
  • Recruit your key staff with a view in mind about which of them could take over from you and could lead major streams of your business in their own right
  • Ensure your succession plan and structure is in place well ahead of any exit discussions - trying to engage in change at the time you are asking others to pay money for your life’s work is complicated
  • Run the financial budgets and accounts as if you have external conversations going on at all times - what will the margins be for a new owner, avoid adjustments and the potential buyer thinking they will need to invest to achieve the plans: they would then discount valuation
  • Build up a consistent story of why you are doing what you are doing - acquirers rarely buy companies that look like incubators and idea generators rather than execution heroes.  Being adaptable and flexible to changing customer needs is one thing - pivoting everything 6 months is another.  What intellectual property and proprietary methods underpin all these changes - it is the underlying technology and premise that you want people to buy into
  • Demonstrate an erring ability to set up milestones and achieve them from the earliest possible stage
  • Establish a brand identity and awareness that is separate from the people who set up the company or would run it post-sale - the brand is then meaningful in itself and semi-independent from the technology or people that sit behind it

An ever present part of my advice on this subject is about how to build up a successor management team that could be the exit route through an MBO/MBI.  Sharing wealth generated with your key management team members may be painful up-front but it can lay the ground work for them being able to buy you out later as long as it is pitched in this context.

This can avoid a lot of the pain of a full external sale especially in professional service companies that are less scalable than many technology-based organisations.  I am getting increasingly interested in how to apply the acquisition driven route to exit that I implemented as the telecoms consultancy CEO.  Entrepreneurs may have achieved their goals well before their company has got anywhere near achieving its potential - how about finding a strategic investor/financial partner to finance a partial Founder Exit and then inject cash to merge with other related but synergistic entities to build a real powerhouse that is editable at far higher valuations and multiples at a later stage?

This area will be among many of the themes above that I will return to in future 

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