Why Every Business Needs an Exit Strategy

July 15th, 2015

What’s an exit strategy and why do businesses need one? An exit strategy outlines the end goal of a business venture and the strategies that will enable the venture team to bring the business to this end. Most commonly, this end goal should satisfy venture capitalists’ and investors’ desire to acquire a satisfactory return on their investment within a reasonable period of time.

In a Global Entrepreneurship Institute article, William Link of Versant Ventures writes that “an exit strategy gives entrepreneurs a focus for their efforts and allows them to set up their endeavour with the end in mind”.

The progression towards an exit is meant to build wealth and profit potential for business owners. To this end, the most common exit strategies for entrepreneurs include:

• Selling the business,
• Merging the business with another,
• Listing the company and selling shares to the public, or
• Selling the company’s assets.

Whatever your exit strategy, it needs to be a key consideration in the development of your business’s strategic direction. For entrepreneurs, the development of business goals and strategies becomes a lot easier if they know what they will eventually want to do with the business.

Another perspective concerns investors who are financing your business ventures. They may stay clear of ventures that do not have an exit strategy in the belief that the entrepreneur has no clear strategy for turning their investment into profits.

How to structure and manage an exit strategy

The first requirement is to describe in detail the goals and vision of the company’s principal and its venture team. This should be followed by all or some of the following goals, plans, and projections:

• Clearly outline what exit options are available and describe how these fit with the vision and goals,
• Outline what conditions would trigger an exit, and circumstances that would preclude an exit. For many entrepreneurs an exit strategy is likely to be the principal goal in building a successful venture and on-selling it for maximum profit,
• Describe in as much detail as possible the challenges and difficulties involved in building and growing the business venture. Couple these with clear goals and strategies. Refer to the unique marketing strategy of growth hacking, which is specifically designed for building growth into a new business venture,
• Recognise that it may take five to seven years to achieve the conditions that will enable a profitable exit,
• Conduct periodic valuations of the company’s net worth. The data to perform an evaluation should be readily available from company accounting records, and
• Seek external help in formulating and checking your exit strategy. Be aware, however, that bankers and brokers are not necessarily the best people to conduct such reviews.

Before finalising your exit strategy it’s also advisable to study and review the exit strategies of other companies who operate in the same or similar market niche.

Company valuation and assessment

For small businesses and startups, net cash flow is the most important valuation. This value is extracted from a company’s Balance Sheet. Investors and venture capitalists assign a multiple to the net cash flow. A well run company that is a market leader may be assigned a multiple of seven times net cash flow; a company with declining revenue may be assigned a multiple as low as 1.5 times net cash flow.

Other elements that contribute to a company’s valuation include:

• Online traffic volume, and visitor behaviour like page views, time on site, and repeat visits,
• Quality and turnover of products held in inventory. What value can be assigned to the inventory? Does the inventory include obsolete and unsellable products?
• Gross profit margins on products sold,
• The quality of a company’s customer base:> What is the conversion rate for prospective clients?> What is the lifetime value of a customer?> What is the customer retention ratio and how often do they order products and services?> What is the average order value per customer?
• Search marketing metrics reflected in search engine rankings relative to products sold, as well as online promotion performance,
• Social media performance indicators like followers and engagement reflected by content sharing, comments, and likes,
• Infrastructure quality such as financial systems, communication systems with clients, staff collaboration systems, and mobile access to systems anytime from anywhere,
• The quality and competency of employees, and
• Finally, the risks associated with replacing existing ownership and management.

As an incentive to what can be achieved with an exit strategy, Strategic Exits reports that YouTube was sold for $1.6 billion after just two years, Flickr was sold for $30 million a year and a half after startup, and Club Penguin for $350 million at just two years old. What can an exit strategy do for your business?