Exit Strategies for Entrepreneurs

Posted by cskadmin on August 31, 2012

Strategies for exiting a business can include a buy-sell agreement, a cash sale to a third party, a buyout or recapitalization, or an employee stock ownership plan.

If you are like many of your peers, the road into your business was more clearly laid out than your exit  route from involvement. However, a well-drawn road map for the endgame can be the difference between achieving success and missing the target on important life goals. Preparing an effective exit plan should be a central part of your overall game plan.

Laying the Groundwork

A viable exit strategy must take into account not only where you are today but where you would like to be in the future. Many entrepreneurs start by developing a comprehensive net worth statement that identifies available resources and matches these resources against specific goals.

Another important step is values clarification. For example, if your children are involved in the business, would they remain after the business is sold, or would they move on to other roles? What is your vision for life after selling your business? Do you plan to retire, or would you like to stay involved on a part-time basis? These or other issues could impact the practical aspects of the exit strategy.

Finally, consider existing business relationships and provisions. Identify the key professional and
executive talent in your firm and create reward and retention strategies for them.

Potential Deal Forms to Consider

The various choices of deal structure each offer unique cost/benefit trade-offs. Here is an overview of the

  • Buy-Sell agreement. This arrangement permits business co-owners to terminate their business relationship by setting the parameters for some participants to buy out others. One or more associates can maintain their involvement in the business when others might wish to sever their ties to it. A buy-sell agreement requires careful design to make sure that its execution does not work at cross-purposes with other estate and succession planning tools.
  • Cash sale to a third party. A pure cash transaction may create the greatest immediate liquidity for the seller, but other financing structures may have the potential to generate greater net yield over time. A cash sale may also be the simplest means to execute a complete and immediate separation from the business.
  •  Buyout or recapitalization. In leveraged transactions, partners, managers, or the business as a corporate entity borrow the funds to purchase the stock of the exiting entrepreneur. These deals may be especially useful for dissolving a multiple ownership arrangement while otherwise maintaining the business as a going concern. They are also used for transferring business responsibility to children or other heirs while creating financial independence from them. Recapitalizations can be used to finance an annuity for a business owner who might wish to combine financial independence with limited business involvement.
  • Employee stock ownership plan (ESOP). An ESOP is a form of leveraged buyout designed specifically to give control of the business to a broad base of its current employees. ESOPs may have higher transaction costs than ordinary cash sales, but in many cases these costs are not out of line with the expenses of other more complex deals. There are also specific tax benefits for ESOP transactions that may improve their net value significantly.

Managing the Proceeds

A key part of any exit strategy is the financial plan for managing the proceeds in a manner consistent with a client’s post-sale goals. Such plans typically include a blueprint for investing sale proceeds in a diversified portfolio. They also include an estate plan crafted to capitalize on trust structures and tax code features that allow you to preserve wealth and protect the future interests of heirs. Among the favored devices may be family limited partnerships and grantor retained annuity trusts, which can reduce the
estate value of shares passed on to heirs.

When planning your exit strategy, consider how the legal, tax, and financial implications are likely to affect your current and future objectives.

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