Written by Clairine Runtung
Tech start-up entrepreneurs sometimes overlook the planning for an exit strategy, even though it plays an important role in determining the strategic direction for the company. Why is it necessary for a startup to come up with an exit strategy? Thinking through, planning for and working towards an exit is something useful for entrepreneurs to begin since early days. By not strategizing ahead, you may find that the options in the future could be limited. Martin Zwilling, angel investor and author of “Do You Have What It Takes To Be An Entrepreneur?”, states in his article on Business Insider that there are a number of reasons why you need to plan an exit:
- If you are a serial entrepreneur, you probably love the art of a start. If your company takes off, after some years you are probably managing more than 50 employees and growing. Some serial entrepreneurs feel underprepared to manage a large company and thus, selling and starting another startup could be the next preferred option.
- External equity investors, especially those coming in at early stages, would want to collect their return. Unlike loans, equity investments won’t deliver until the investor cashes out.
Even if you’re a small company, it’s a good idea to plan ahead and to actually have an idea of how you will transfer ownership of the company down the line, sell the company, or make a return on your investment.
In tech start-up industry, a venture-backed company usually has 2 exit options: Merger & Acquisition (M&A) and Initial Public Offering (IPO).
In the case of M&A, it usually means being bought out by a larger company, or merging with a similar company within the space. This is usually the case where if you get a business strategic alignment right, a larger company that is in most cases already well-established and is interested in your product can buy out your company, or, you can merge with similar company for the purpose of market expansion, talent recruitment, product development, among other things in the roadmap. When a company decides to sell itself to another company, the buyer will often incorporate or merge the services of that company into their own product or service offerings.
There are many successful examples so far; one good case would be Youtube’s buy-out by Google, which was valued at a whopping USD 1.65 billion. The strategy remains such that Google’s ads platform can be integrated into Youtube’s platform, which is the go-to place for everything video-sharing. The acquisition has since transformed Youtube into the second biggest search engine on the Web. Now, when you search for a topic on Google, you will notice that videos appear as search results.
An IPO, on the other hand, provides an opportunity for the startups to turn from a privately-owned company to the public market. Although in this case the investors will not necessarily be able to exit immediately, they now at least have the option to sell. In the early days, IPO used to be the preferred mode (and the dream) for most internet and tech-related startups in developed countries such as the United States and Europe. Why so? An IPO can signal that entrepreneurs are dreaming big because essentially, by being listed in the public market means the company is ready and gearing towards an outsized reward. This is until Internet bubble burst in 2010, which triggers a decreasing trend in tech startups public listing—according to Dealogic, a global content and analytics company, there are just 30 tech deals priced in 2015, half the previous year and the smallest number since the aftermath of the financial crisis in 2009-2010.
Facebook’s IPO which took place in 2012 saw an enormous peak market capitalization of almost US$ 200 billion in mid 2014. Interestingly enough, in the recent years, “hot” tech companies in Silicon Valley such as Uber and AirBnB prefer to stay private, though with sky-high valuation. In an article published by Financial Times, Matthew Kenedy, an analyst at Renaissance Capital, mentions that while the supply is there for tech IPOs in 2016, the market conditions are not given recent volatility. Should the market stabilize, an IPO listing of a tech company is still a way to build a sustainable company that is public, especially for tech visionaries who wish to change the way things are done. Going public, however, comes with its cons too. An IPO can be expensive in the sense that companies would have to pay for compliance costs, and they need to make their books accessible to public investors.
An exit strategy is not just relevant; it is essential. While to some entrepreneurs it may feel awkward to think about an exit plan early on, it is more often than not necessary especially if you are bringing on venture capital firms or angel investors on board. As an entrepreneur, you need to understand that it is not enough to build a successful business worth billions; you need to think ahead of a way to get the money back out.