The saying, “all good things must end” applies to startup entrepreneurs. In some instances, the entrepreneur may consider his/her experience to be anything but good. Long days, short sleepless nights and answering to the calls of pesky investors looking for the first signs of revenue can tax even the most resilient maverick. But entrepreneurs are not just masochistic, they recognize that the risk/return trade-off applies to startups as well and should eventually pay dividends in the future.
In preparing for that liquidity event, the business owner should take into consideration activities relative to selling the business long before the event occurs. In fact, the business itself should be treated as one big M&A process from start to finish. In that light, the following steps will be helpful for beginning with the end in mind when it comes to business exits and divestments.
Corporate Structure Matters
Countless pontificators will give advice about whether to setup a C-corp, S-corp, LLC or partnership. They’ll give you the pros and cons relative to tax treatment, profit sharing and ownership. Each entity behaves differently, depending on the circumstances and purpose of the company. Little consideration is often given at the outset for how to setup the business entity or why it even matters to consider different forms.
Here is an example that will help to paint a picture as to why particular structure may mean the difference in thousands of dollars when you finally decide to sell the company.
The recent JOBS act submitted by Congress and signed by the President, includes a little-known law regarding startups in 2013. If a C-corporation beings operations in 2013 and grows within the next five years to a $10 million business and is subsequently sold, the owners and investors will not have to pay capital gains taxes on the backend. This little tax loophole only applies to C-corporations started in the period just after the JOBS Act was enacted and the capital gains are eliminated only for the first $10 million. After that, normal taxes kick-in. If there were ever an instance where planning and timing could save six figures of fun capital gains taxes that time is now.
In short, the structure of your company matters and so do well-prepared financial statements, so plan early and get organized.
Court Buyers Early
For the revenue-positive, successful entrepreneur, finding a buyer is much easier. It’s the distressed deals that are a more difficult sale. Building great relationships along the way will enhance your corporate image, but can also serve you in other ways as well. For instance, one client had begun to talk with a competitor in his space early on. They built up a good relationship and trust one another—even though they still fought over the same customers. When our client wanted out, this buyer was the first to hear about the deal, jumped at the chance and paid more for the business than it may have been worth to other because of the strategic implications.
In addition, knowing who might be considered a “strategic” buyer for your business will be highly relevant when it comes time to sell. Unlike financial buyers who only care about the numbers, strategic buyers are interested in other external considerations about your company like potential synergies, growth and general business expansion. As a result, courting the right people very early—perhaps even years before you intend to sell—can provide a great benefit to the value your business creates in the final liquidity event.
Additionally, it is helpful to know multiple strategic interests who may have a desire to acquire. The more demand you can spur at the time of sale, the greater price you obtain when the business finally sells. It’s simple supply/demand economics.
Estate Plan from the Beginning
Estate planning is about as fun to talk about as taxes, but ignoring its implications can be costly. Things like life insurance, buy/sell agreements, buyout provisions and buyout funding should all be considered. Buyout triggers could come unexpectedly from things like owner death and disability. Being unprepared is like having your wife tell you she wants a divorce without ever having signed a prenuptial agreement. You’ll lose assets pretty fast when disaster strikes.
Regardless of whether you’re a newbie or a seasoned entrepreneurial veteran, if you plan on selling the business from the beginning, the time necessary to actually complete a deal in your favor can be substantially reduced. My personal advice is to treat every business like you’ll be selling it in five years because chances are you probably will.