Types of Business Exit Strategies and Their Pros and Cons

The importance of a well-thought-out business exit strategy is tough to overstate. It helps with maximizing your business valuation while providing increased peace of mind and ensuring a smooth transition for both the seller and buyer.

Whether you’re thinking you might step away from your business in the next few years or much further down the road, the more preparation you can do in advance, the better off you’ll be. By starting to think about your business exit strategy well before it’s close to that time, you can prevent many of the headaches and drawbacks that come with a rushed or incomplete process.

For many small business owners, partnering with a business exit strategy consulting company is well worth the investment. From maximizing your valuation to connecting and negotiating with highly-qualified buyers, the right advisory team will make sure that no detail goes unaddressed and you get the best return possible.

The following is an overview of different business exit strategies, including advantages and disadvantages, so you can understand your exit options and make the right choice for your business.

What Is a Business Exit Strategy, and Why Does It Matter?

A business exit strategy is exactly what it sounds like: a detailed, methodical plan for selling, transferring ownership, or closing your company. It’s like a roadmap for maximizing your return and ensuring a smooth transition, whether your goal is retirement, a career change, or a different kind of transition.

What many small business owners don’t realize is that they have more control over the outcome of their sale or transfer than they might think. A solid guide to preparing to sell a small business will consistently point to one factor above all others: thorough and detailed preparation, ideally starting the exit planning process at least 2-3 years before your target date. That window gives you time to optimize your EBITDA, clean up your financials, and resolve any operational issues that could impact the return you’re able to receive.

Creating and implementing a well-thought-out business exit strategy helps to maximize your business valuation while providing increased peace of mind and ensuring a smooth transition to new ownership.

What Are the Most Common Exit Strategies for Small Business Owners?

There’s no universally “best” exit strategy for a small business owner. It depends on the specific business, circumstances, and market conditions, as well as your own personal financial goals. Five common strategies to consider include:

1. Targeting strategic buyers
2. Selling to a private equity firm or financial buyer
3. Considering a management buyout (MBO)
4. Starting an Employee Stock Ownership Plan (ESOP)
5. Transferring the business through family succession 

How Do Strategic Buyers Maximize the Value of Your Business?

One exit strategy that works for many small business owners is to target strategic buyers like a competitor, customer, or supplier. 

This approach tends to yield high valuations, since a strategic buyer will value certain aspects of your business (through one or more strategic acquisitions) in addition to just its revenue. They might want to expand into your market, or access your assets, intellectual property, or customer base. 

One of the main trade-offs with selling to strategic buyers is having much less control over what happens with the business after the deal closes, including any impact on the company’s brand, identity, or reputation. Additionally, there may be significant layoffs if there are overlapping roles.

How Does Selling to a Private Equity Firm or Financial Buyer Work?

Unlike a strategic buyer, a private equity firm would be interested in acquiring your business as a standalone investment. They would generally hold it for three to seven years before reselling. 

That means selling to a private equity firm or financial buyer usually represents a partial exit instead of a clean break, but there is a significant upside. The seller in these transactions receives substantial liquidity upfront, often retains an equity stake with continued upside, and gains access to capital and operational resources to accelerate business growth.

There are, of course, trade-offs too. In the case of selling to private equity or a financial buyer, you have less autonomy over how the process plays out, may feel immense performance pressure from the board, and must work within a timeline that aligns with the private equity fund’s lifecycle.

Does a Management Buyout Help Maintain Business Continuity?

In a management buyout, you’re essentially selling your business to your existing management team, usually through a combination of seller financing and debt. For many small business owners, a management buyout represents the smoothest and easiest exit strategy to pursue.

Since the people who will be running the business once the exit is complete are already familiar with how it operates, the disruption to employees and productivity is minimal.

While management buyouts do help maintain business continuity, there are a couple of trade-offs to consider. The first relates to the company’s valuation, with the typical buyout resulting in a lower sale price than the business may have attracted on the open market. And since seller financing is often a component of a management buyout, it means you’ll receive less of the sale proceeds at the time of closing and more of it as the debt is paid over time.

How Does an Employee Stock Ownership Plan (ESOP) Reward Owners and Motivate Employees?

In some ways, an Employee Stock Ownership Plan is like a type of retirement plan, but with a few key differences. While retirement plans like 401(k)s are funded by employee payroll deductions with optional employer matches, for example, an ESOP is fully employer-funded with company stock. 

An ESOP can function as an exit strategy by enabling a business owner to sell all or part of their company shares to a qualified trust, which holds them for employees. This approach provides liquidity, tax advantages, and a gradual transition, often by financing the sale through a combination of bank and seller loans.

This strategy has its disadvantages as well. Many small business owners find the process complicated and costly. An ESOP also requires ongoing administration and can limit strategic flexibility as it moves forward.

Can Family Succession Preserve Your Family Legacy?

When properly executed, transferring ownership to family members can be an effective and rewarding exit strategy. This approach enables strong business continuity and real opportunities for tax-efficient wealth transfer. 

That can be a double-edged sword, however, with inherent risks. For example, a certain amount of vetting and preparation is still necessary, like vetting that whoever will be taking over operations is prepared for the role, understands what it entails, and will be the right leadership for the company’s next chapter. Family dynamics can always introduce conflict, as well, but through thorough planning, family succession can be an ideal way to transfer ownership while preserving the business’s legacy.

Are There Other Options?

There may be. For example, while an IPO is technically an exit option, it’s rarely realistic for small businesses given the scale, cost, and regulatory requirements involved.

How Do You Choose the Right Exit Strategy for Your Personal and Business Goals?

Once you know what your options are, you need to consider several factors to decide on your exit strategy. Taking the following steps will help you identify the strategy that will work best for your business.

1. Start with your timeline. 

How soon do you want/need to exit the business? By starting the planning process 3-5 years in advance of your exit, you’ll have multiple strategies to weigh, so you can carefully consider which will provide the most advantages and the best return.

2. Consider your liquidity needs. 

How important is it to maximize immediate liquidity at closing? If you need most or all of it up front, strategic buyers or private equity are likely your best options. If you don’t need it all at closing, you have more options available, like a management buyout, ESOP, or family succession.

3. Think about what’s next.

Do you want a clean and total break from the business, or do you still want to be involved in it? Each exit strategy assigns a different level of autonomy or involvement with the company moving forward. Selling to a strategic buyer is best if you want a clean break, while each of the other strategies comes with its own “strings attached” (like the partial exit of selling to private equity, the financing terms of an MBO).

4. Carefully evaluate your finances.

Buyers will scrutinize every aspect of your financials, looking for any points they might be able to use as leverage to drive your price down. Make absolutely sure your financials are all in order, up-to-date, and GAAP-compliant before a prospective buyer takes issue with them during their due diligence process. If a buyer has too many concerns with the organization’s financial health, it becomes difficult to receive the fair market value in return.

5. Factor in market conditions.

Whatever your business type and industry, business valuations are subject to several forces that are outside of your (or a potential buyer’s) control, including the condition of the mergers and acquisitions (M&A) environment and private equity activity. By preparing your exit strategy sooner rather than later, you’ll be able to act quickly and time your exit to the most favorable market conditions.

How Can Milestone Help You Plan a Successful Business Exit?

At Milestone, we understand that every strategy is unique, and what works best for one business owner doesn’t necessarily make sense for the next. We understand both sides of the transaction and leverage our experience to provide customized business exit strategy consulting. 

We’ve helped numerous small business owners to maximize valuation and smoothly transition ownership through our three-stage approach to customized exit strategy development.

• Discovery: We’ll look at where your business stands today and how we can address any gaps or issues to maximize its value and help you find qualified buyers. 

• Strategy: We’ll consider every aspect of successful exit strategies as we reduce inefficiencies, enhance operations, and eliminate potential liabilities that could be leveraged by a potential buyer.

• Execution: We’ll field the offers, manage due diligence, and negotiate favorable terms that align with your priorities.

Let’s Talk

When it comes to preparing for a small business exit, preparation is everything. This might be your first time selling, transferring, or closing a business, but it’s not ours. Reach out today to schedule a consultation.