Exit Routes for Business Owners

This article was co-authored by Nate Wenner, principal and regional director at Wipfli Hewins Investment Advisors.

Are you a business owner thinking about exiting your company? Are you wondering which exit route will benefit you the most? While the number of exit routes may seem unending to you, in fact there are generally only eight exit routes to choose from:

— Transfer the company to a family member

— Sell the business to one or more key employees

— Sell to employees using an Employee Stock Ownership Plan (ESOP)

— Sell to one or more co-owners

— Sell to an outside third party

— Engage in an Initial Public Offering (IPO)

— Retain ownership but become a passive owner; or

— Liquidate

Before You Sell

While emotions can cause the exit process to be overwhelming at times, the decision-making steps can be relatively straightforward. First, business owners must establish personal and financial objectives in order to identify the best buyers of the business. Second, they need to determine the value of the company. Finally, the tax consequences of each exit path need to be evaluated.

Exit Routes for Business Owners

Here’s a look at each option:

1 – Transfer to Family Member

Owners who consider transferring their businesses to family members usually do so for non-financial reasons. Advantages to this route include:

  • Transfers the company to a known entity;
  • Provides for the well-being of the owner’s family;
  • Perpetuates the company’s mission or culture; and
  • Allows the owner to remain involved in the company.

There are several disadvantages to this route as well, primarily:

  • Little or no cash from closing available for retirement;
  • Increased (and continued) financial risk;
  • Required owner involvement in company post-closing;
  • Children’s inability or unwillingness to assume the ownership role; and
  • Family issues that surround treating all children fairly or equally.

2 — Transfer to Key Employee(s)

The owner who considers this type of transfer hopes to achieve the same objectives as the owner transferring to a family member:

  • Transfer the company to a known entity;
  • Perpetuate the company’s mission or culture;
  • Allow the owner to remain involved in the company; and
  • Achieve financial security, albeit potentially over time.

The disadvantages of this exit route are also similar to those present in the family transfer:

  • Little or no cash from closing available for retirement;
  • Increased (and continued) financial risk;
  • Required owner involvement in company post-closing; and
  • Employees’ inability or unwillingness to assume the ownership role.

3 – Transfer to Key Employees Via ESOP

Employee Stock Ownership Plans (ESOPs) are qualified retirement plans, which must invest primarily in the stock of the sponsoring employer. In addition to the advantages of a standard transfer to key employees, the owner who uses an ESOP to transfer a company to key employees also enjoys beneficial tax treatment as well as cash at closing. Not all aspects of this exit route benefit the owner, namely:

  • Cost and complexity of ESOP;
  • Limited company growth due to borrowing necessary to purchase owner’s stock;
  • Less than full value received at closing (compared to third party sale);
  • Company assets used as collateral; and
  • Key employee ownership is limited.

4 — Sale to Co-Owners

The advantages to this type of sale include:

  • Transferring the company to a buyer whose commitment, skills and knowledge are known quantities;
  • Perpetuating the company’s mission or culture; and
  • Allowing the owner to remain involved in the company.

The disadvantages of the sale to a co-owner are:

  • The need to typically take back an installment note for a substantial part of the purchase price;
  • Increased financial risk;
  • Owner involvement usually continues post-closing; and
  • Less than full fair market value normally received. 

5 — Sale to a Third Party

This exit route offers an owner the best chance at receiving the maximum purchase price for his/her company. Additionally, the owner who engages in a sale to a third party is best positioned to receive the maximum amount of cash at closing. The route appeals to owners intending to leave after they sell, as well as owners who want to propel the business to the next level with someone else’s financial support.

Advantages include:

  • Achieve maximum purchase price;
  • Receive substantial cash at closing;
  • Allow owner to control date of departure; and
  • Facilitate company growth without substantial owner investment or risk.

Disadvantages include:

  • Potential loss of owner’s personal identity;
  • Potential loss of corporate culture and mission;
  • Potentially detrimental to employees if sold to a party that is seeking consolidation; and
  • Depending on the sale structure, part of the purchase price may be subject to future performance of the company after it is sold.

6 — Initial Public Offering

The IPO (Initial Public Offering) exit route is one that attracts business owners for two reasons: high valuation and cash for the business. Unfortunately, the IPO is not without significant disadvantages, primarily:

  • Limited liquidity at closing;
  • Not a full exit at closing;
  • Loss of full control;
  • Additional reporting and fiduciary requirements; and
  • Company needs to be very large (over $250 million at least) for an IPO to be an appropriate exit option.

7 — Assume Passive Ownership

This route attracts owners who wish to:

  • Maintain control;
  • Become less active in the company; and
  • Preserve company culture and mission.

The owner is disadvantaged, in that he/she:

  • Never permanently leaves the business;
  • Receives little or no cash when he/she leaves active employment; and
  • Continues to experience risk associated with ownership.

8 — Liquidation

There is only one situation in which this exit route is appropriate: the owner wants or needs to leave the company immediately and has no alternative exit strategies in place. Liquidation offers speed and cash; however, the disadvantages to this route are enormous:

  • Liquidation yields less cash than any other exit route;
  • The tax burden is higher than any other type of sale/transfer; and
  • Possible devastating effect on employees and customers.

Given these disadvantages, few owners pursue liquidation unless they have no alternative.

Choosing the Best Path

In determining the best exit option, business owners should carefully compare the advantages and disadvantages of each path in relation to their specific objectives. Engaging experienced advisors to assist in this process is valuable, as they can provide guidance, examples and market perspective to help achieve the optimal result.

 

Hewins Financial Advisors, LLC d/b/a Wipfli Hewins Investment Advisors, LLC (“Hewins”) is an investment advisor registered with the U.S. Securities and Exchange Commission (SEC) under the Investment Advisers Act of 1940. Hewins is a proud affiliate of Wipfli LLP. Information pertaining to Hewins’ advisory operations, services and fees is set forth in Hewins’ current Form ADV Part 2A brochure, copies of which are available upon request at no cost or at www.adviserinfo.sec.gov. The views expressed by the author are the author’s alone and do not necessarily represent the views of Hewins or its affiliates. The information contained in any third-party resource cited herein is not owned or controlled by Hewins, and Hewins does not guarantee the accuracy or reliability of any information that may be found in such resources. Links to any third-party resource are provided as a courtesy for reference only and are not intended to be, and do not act as, an endorsement by Hewins of the third party or any of its content or use of its content. The standard information provided in this blog is for general purposes only and should not be construed as, or used as a substitute for, financial, investment or other professional advice. If you have questions regarding your financial situation, you should consult your financial planner, investment advisor, attorney or other professional.
Jeff Milkie
Jeff Milkie

CPA | Managing Director, Wipfli Corporate Finance Advisors

Jeff Milkie, CPA, is the Managing Director of Wipfli Corporate Finance Advisors (WCF), based in Minneapolis, MN. With more than a decade of experience in corporate finance and investment banking, Jeff specializes in mergers and acquisitions, private placement, advisory and valuation engagements across a range of business sectors, from manufacturing to construction to healthcare.

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Exit Routes for Business Owners

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