Thinking of exiting a business? When to stick, twist or show your hand

I was recently talking to an entrepreneur with a young tech-based business that had flourished during the COVID-19 pandemic. Post-lockdown, the company has struggled — and as a result, its owner was contemplating the future. 

With cash in the bank — but locked up in the company — the entrepreneur finds themselves at what I call the poker crossroads. 

The entrepreneur poker crossroads

Should they:

1. Stick

Use the cash built up to fund the cash flow requirements of the business through the coming sticky months before the business is making good money again.

2. Twist

De-risk the business by splitting out the contracting business (where the risk and often hard and less pleasant work is done) while retaining the technology intellectual property and much of the cash in the existing business — thereby creating a new business model.

3. Show their hand

By either seeking a buyer or liquidating the business — taking out the cash that has built up along with any goodwill value.

The key point here is that exiting the business (showing their hand) is usually just one of many options that any entrepreneur should consider. 

Each option has its complexities — for example, in terms of execution, risk and tax. Each will also have time-critical implications — current market, anticipated market, track record and the cost of time. 

Whichever option is chosen could result in very different paths and working days for the entrepreneur — a real crossroads in their journey.

So, which route should the entrepreneur take?

Option 1 — funding the business

This route might look less risky on the face of it. The business is operating, it has some good contracts in the pipeline. It has made a good name for itself and the staff are currently excellent and committed. 

The cash flow needs may be temporary — if the entrepreneur can hold his nerve and swallow the hard work and stress, the business could hit a strong growth curve with blue chip clients in the tech sector, rebuilding cash reserves and creating significant value to a future acquirer or funder (at which time there’ll be even more options to choose from. 

However, the cash built up will deplete and may run down to zero. So how long will the market lull continue, does the company have sufficient runway? How long will it be before other market entrants become truly competitive? How much longer can he keep the staff onboard — and importantly, how much energy does he personally have left to battle it out?

Option 2 — splitting out the business

If the contracting business works, this will build value in the tech IP business. The IP could be licensed for other markets, adding to its value and the income it generates. Both the contracting and IP businesses could generate revenue. Yet without the contracting business working, the IP may not have value because it’s in the contracting business that’s being used. 

So, will the staff remain committed to the contracting business when the value build up is in the IP business? Will the contracting business need the cash flow from the IP business in any event, causing the cash to deplete? Additionally, will the current contracting partners be happy to have their contracts moved to a shell contracting company?

Option 3 — exiting the business

This is essentially taking the value now and banking it. If the company is liquidated, this will take the cash out in a relatively tax efficient manner — and there isn’t currently much in the way of ongoing liabilities that would deplete the cash. However, this option limits the return, leaves staff without work and leaves customers high and dry. Also, for the entrepreneur, is there a little stigma to liquidating the company? It could be done in such a way that the IP comes out and can be invested into a new business — a clean canvas, a phoenix. The entrepreneur would have cash banked and a clean slate from which to design a new business. 

Alternatively, the company (or its business) could be sold — the result of which should add value over and above the cash assets of the business. If the timing is right, the story of the business is strong — showing growth and/or huge potential — and if it’s in a hot market, the entrepreneur could bank an amount that’s considerably in excess of the cash in the business while walking away largely stress free. 

However, selling a business requires finding a buyer, which may involve the market — and possibly customers — becoming aware of the sale, so the process will need to be closely managed. This route also requires a huge amount of the entrepreneur’s time, as the buyer will need to understand everything about the business and warranties are required to provide comfort that everything the buyer has been told is true. The potential buyer will build a full understanding of the business, which it’ll continue to have if the transaction doesn’t complete. There are costs to a sale process and the risks are that no buyer is found or the deal falls through. Additionally, the buyer may want the entrepreneur to stay in the business for a period of time and could attach some of the purchase price to the future performance of the business. On the other side, the entrepreneur will need to accept restrictions that prevent him from being active in that market for a period of time (likely three years).

No journey is the same

There are many more options available to the entrepreneur, including finding an investor to remove the cash flow stress and share the risk/return equation or finding a wider management team to invest in the business and take up some of the stress, work and strategy. 

That’s why I love what I do. No entrepreneur or business are the same. Their pathways and trajectories are different, as are the markets in which they operate. Personalities, strengths and weaknesses vary considerably. As a result, no conundrum, no business journey, are the same. 

If you find yourself in a similar position, we’re here to support you by applying our experience (and, in my case, grey hairs) in analysing where you are, why you’re there and where you go next.

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