Exit strategy: what it is and why you need one
An exit strategy helps you plan your startup’s future, attract investors, grow strategically and maximise returns for fo...
Most founders don’t plan to oversee their companies’ operations forever. Whether your startup is going brilliantly or you’re about to run out of money, at some point every founder is probably going to consider a sale.
Watch the first video to hear our CEO Anthony Rose explain how to prepare your company, investors and team for a successful sale. In the rest of the post, we summarise his insights and identify six steps to selling your company.
Update: We’ve also included a second video, a webinar recording where you can watch Anthony talking with JP Lewin of Foundy, the UK platform to buy or sell a business, to hear more insights about when and how to sell your company.
SeedLegals CEO and co-founder Anthony Rose knows startup sales, having exited two companies himself. In this video, he explains what you need to know about selling your business.
Find out how to prep your team, the key differences between asset sales and share sales, how to navigate distressed funding, option schemes, SEIS and EMI tax issues and more.
Read on for a summary of Anthony’s points and more information about when, how and why to sell your business.
A sale is either structured as a share sale or an asset sale:
An asset sale is less risky for the buyer, because they won’t take on responsibility for any outstanding issues the company has. For this reason, a share sale is, in general, harder to negotiate and comes with much greater pressure on the due diligence process.
The ideal scenario is that while you’re focused on building the best business you can, competitors and larger companies in your sector are taking note. One day you get a phone call with an attractive offer to buy you for a multiple of the valuation at your last funding round.
I’m a big fan of simply focusing on growing your business. At some point somebody might call. But if it’s on your mind from the beginning, you focus on the wrong things like vanity metrics like PR and bought traffic. Focus instead on the fundamentals: happy customers, month on month growth, revenue and profitability.
Co-Founder & CEO,
But if you’re not profitable and running out of funds, then selling your company could be a good exit strategy. If you can find a buyer who’s willing to take over the company as a whole, warts and all, a share sale is the simplest option as you’d just need to sell your shares to the buyer.
Some buyers may prefer to cherry-pick specific assets or parts of the business and leave the rest. In that case, an asset sale may be the way to go as it allows you to sell off any parts of your business which have value and then wind up what’s remaining of the company.
Whether the sale is the crowning achievement of years of graft, or a plan B for a startup that didn’t take off how you wanted, the process of selling your company is largely the same.
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If you’re burning through your runway and low on cash, then you have a stark choice: take in further funding or sell for what you can.
It’s a tough position, because it’s not wise to keep both options open. Contemplating a sale blocks you from launching a traditional funding round, because investors will lose their SEIS/EIS perks if they don’t hold their shares for a minimum of three years. Since SEIS/EIS is the lifeblood of the early-stage investing ecosystem, an imminent plan to sell is effectively a blocker to taking in further funding.
If you’re seriously considering a sale, you need to let your shareholders and investors know. While you’re unlikely to get new investors at this point, people who’ve already backed your company and have more to lose might be persuaded to invest again to save the company.
You might also end up in a last-man-standing situation. This is when other shareholders decline to put more money in, but someone is willing to invest via a convertible loan note to limit their risk.
If you manage to raise more or sell your business for a high valuation – great. The note converts at that high valuation and everyone wins.
But if you don’t, then it converts at a very low valuation and the last-man-standing investor could end up with majority control of the company for a very low price.
This appeals to the final investor, because they’re then able to gain control of the business, put more of their own money into it, repackage it and either run the business or strip it for parts.
How do you keep your team focused when there’s a possible exit on the horizon? Uncertainty about the future can be a massive distraction, and the reality is that a sale could take between 6 to 12 months.
You don’t want to pull your team’s focus from growing the business. At the same time, you don’t want to blindside them. In general, it’s best to start prepping your team when it looks like you’re about to get a firm offer on the table. That way, you’ll be able to let them know whether the new owner intends to keep the team.
What happens to your team depends on the structure of the deal. With a share sale, the company transfers as a whole – and that includes all current employees. If the buyer doesn’t want or need the whole team, then they are responsible for following the usual redundancy processes.
With an asset sale, it depends again on exactly how the deal is structured. If the buyer takes on all or enough of the company’s assets, the sale might count as a transfer of the business as a ‘going concern’. In that case, Transfer of Undertakings (Protection of Employment) regulations (TUPE) will probably kick in and the employees will transfer over to the buyer. The company and the buyer will have to decide how they deal with any redundancies, for example who is responsible for the cost of the redundancies and whether it’s done before or after completion.
But if the buyer is cherry-picking assets and isn’t buying the business as a going concern, then the employees usually stay with your company. You would have to deal with any redundancies after the sale, as part of the winding up process.
Both redundancy and TUPE transfer come with specific legal obligations, so you should speak to an employment lawyer or HR advisor before talking to the employees about a potential sale.
When you’re ready to talk to the team, you should be honest about the reasons for the sale (good, bad, or indifferent). You can be candid about the opportunities for everyone – founders can cash out, investors get a multiple return, and if your team have share options, they can exercise them and cash out too.
Take stock of your company and identify why a larger company might want your business. There are essentially four things a larger company might want from yours:
After you’ve identified which aspects of your business are going to make you most attractive, you can focus on building up those areas to be as appealing as possible. It might also be worth investing in some well-placed PR for the relevant market.
Potential buyers are going to approach due diligence with a very fine tooth comb.
Due diligence when it comes to an exit is entirely different from investor due diligence. When you’re raising money, your investors are taking a bet on you and the future. They’re often not too worried about DD. If they can see your website and try your product, that might be enough.
But an acquirer wants more. There’s no future bet. They’re giving you money (lots of it), and getting something warts and all.
Co-founder & CEO,
Paying extra attention to the area that’s likely to be of most interest to an acquirer, triple-check you have everything in perfect order.
If you’re missing the proper paperwork, that could knock down the price the acquirer is willing to pay, sour the relationship and put the entire sale at risk. Here are the documents you must have in place to successfully sell your business:
Team – Make sure you have your employment contracts in place. An acquirer is going to want to know that the team is properly retained and engaged and that there are no lingering issues that could cause an expensive tribunal claim after completion.
Tech – Check there’s nothing that might kill your potential to sell your tech. Ideally, you want an unbroken chain of ownership with cast-iron IP Assignment agreements with the team. A potential buyer is going to be on the lookout for signs of costly tech debt, so do everything you can to prove you have a beautifully architectured stack.
Traffic – If your buyer wants to take over your URL, they’ll look into the source of your traffic. Is it organic? If you have partnership agreements in place that send traffic to your site, you’ll need to know whether these agreements will survive the sale or whether they’ll have to be renegotiated.
IP – Typically, the tech and team in a startup will be most valuable. Occasionally, an acquisition might centre around a patent. Here you might find yourself with an unwelcome surprise – what the acquirer thought was a patent was actually a patent application. Be careful not to mislead about the status of your intellectual property.
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Just like with a funding round, a fair valuation for your business balances both tangible factors (profits, turnover, etc) and intangible factors (your brand’s reputation, the current economic climate and so on).
It can be helpful to get an external perspective on your business and engage a specialist who can help you value your business. You’ll then be able to confidently defend the figure in your negotiations with potential buyers.
As ever, searching through your network for someone who might be interested is a good place to start. However, you might not want to be posting openly on LinkedIn about selling your business.
There are several online marketplaces where you can list your business like Foundy, Acquire and Flippa. You can also engage a broker’s help, who’ll be able to facilitate the deal for a commission.
After you’ve nailed down the terms of the sale, you and your acquirer will need to sign the raft of legal documents to legitimise and finalise the sale. The exact documents depend on whether you’re selling your shares or assets. You’ll also need to update Companies House.
If the buyer is acquiring the company through a share sale, you’ll pay Capital Gains Tax (CGT) on any profit you make from selling your company – unless you’re still under the limit for your personal tax-free allowance (currently £12,300).
Depending on your individual circumstances, you might be able to reduce the rate of CGT you pay by claiming Business Asset Disposal Relief (formerly called Entrepreneurs’ Relief). Or delay tax payment through Business Asset Rollover Relief or Incorporation Relief.
If the buyer is acquiring the business through an asset sale, the tax liabilities depend on the type of assets the buyer is taking on. Since it’s the company selling its assets to the buyer, most of the tax on any profits will be paid by the company. The shareholders’ personal tax liability will depend on what happens after the sale. For example, there may be income tax payable when the sale proceeds are distributed to the shareholders.
Because this is such a complex area, we recommend discussing the tax liabilities with your accountant before you start discussing how to structure the deal.
Find out how to get your business in the best shape possible, and the steps to follow to negotiate and complete the sale.
Want more insights from Anthony Rose? Watch this webinar to hear Anthony and JP Lewin, CEO of Foundy, discuss how to successfully sell your company. Listen for their insights and practical tips on:
Take control of the sale of your company. Sell on SeedLegals to create all the documents you need and get unlimited support from our experts.
If you’re considering an exit soon, take a look at how to sell your company on SeedLegals and book a free call with us for a confidential chat.