One aspect of interest to most, if not all, investors is the question of how they will get their money out of an investment. This is commonly known as an ‘exit’.
As startups and early-stage companies are usually private and unlisted, their shares are highly illiquid even though individual businesses could be worth millions. Therefore, an exit is a legitimate way to convert an illiquid investment into a liquid one.
A company seeking to raise finance will generally detail their plans for the exit - their ‘exit strategy’ - in their business plan, so this is where you should look for it first.
A successful exit requires a considerable amount of planning and typically a company’s management will start thinking about the exit almost from the outset. How they decide on the right exit will depend to a great extent on the company’s objectives. The management team have several possible options to choose from:
IPO An IPO or Initial Public Offering is when a previously unlisted company offers its shares for sale to the public leading to a stockmarket listing. In the UK, an IPO is also sometimes referred to as a ’flotation’ and it may also be known called a ‘public offering’. Investors can then sell their shares on the public market.
A trade Sale A trade sale is a less costly and more common exit route than an IPO. As the name suggests, it is the sale of one company (or part of a company) to another. The purchasing company acquires the target company for its products or services, intellectual property or market share. Sometimes, a company is bought primarily for its employees; this is known as an acqui-hire.
The purchasing company usually buys the other company’s shares, assets and even its liabilities. Investors in the company being sold are able to dispose of their shareholding and cease their relationship with it.
MBO An MBO (Management Buy-Out) occurs when the management-team of a company decide to buy-out the company they work for. The company continues as a private company and investors are able to sell their shareholdings to the MBO team.
One point to note is that the management team may encounter a potential conflict of interest in this scenario and there is a risk that investors may not receive the best price for the company’s assets.
MBI The opposite approach to an MBO is an MBI or Management Buy-In. In the case of an MBI an external management team secures the necessary funding and buys a company.The team then takes over and manages the company.
Choosing the right exit strategy is not a straightforward decision for a startup or early-stage company. Whether to aim for an IPO, a trade-sale or an MBO/MBI is something that can and usually does influence the development of the business. Also, any exit strategy is at the mercy of market conditions; for example an IPO may not be the best choice if the economy is suffering from a recession.
But, whatever the chosen strategy, the fact that remains that an exit is the first real opportunity for investors in a startup or early-stage company to liquidate some or all of their holdings.