Selling a business isn’t simple, but most entrepreneurs have more options than they realize. Taking the wrong approach could have serious financial consequences for both the entrepreneur and the company. So it pays to know the pros and cons of several ways to cash out and to think carefully about which is the right fit for your business and you.
An outright sale is probably the simplest way to exit a business. This approach makes sense when an owner’s family members have no interest in taking it over or when the owner can’t figure out how to take the company to the next level or meet challenges that may have arisen.
There are two ways to cash out: An owner can sell the company’s assets outright, or he can sell his stock in the company (or units if it is a limited-liability company). Stock sales tend to benefit the seller, while asset sales are more beneficial to the buyer.
Asset buyers are getting the company’s physical equipment, facilities and customers, as well as intangibles such as trademarks and goodwill, and as a result are generally protected against prior claims against the business. For example, the previous owners would most likely be responsible if an environmental claim were made against their former property or if an employee hired on their watch filed some sort of lawsuit.
Stock purchasers, in contrast, are buying the company itself and thus are exposed to all of its potential problems. This is why most sales of small, closely-held businesses are structured as asset sales.
Selling the business to its managers is also a popular option. An owner might go this route when the company has a trusted, entrepreneurial management team that wants to carry on the business.
The biggest advantage of this strategy is that the owner doesn’t have to spend time trying to charm a buyer. The trade-off for an easier sale is that the price may be lower than what an outsider would pay.
Another option is to sell the company to its employees through an employee stock-ownership plan (ESOP). Setting up these plans can be a complex undertaking, but they have their advantages. For example, they’re a way an owner can remain with the company while taking money out of it. And it’s a way to reward employees and provide a long-term incentive for loyalty and hard work.
Here’s how it works: The company sets up an independent trust (the ESOP) that buys the owner’s stock at a price set by an independent evaluator. The trust holds the stock for the employees for as long as they work for the company. When an employee leaves or retires, he can sell the stock back to the company at fair market value.
Some entrepreneurs don’t like having to let a third party determine the value of the shares, believing that it might mean accepting a lower price than they would get on the open market. Also, the company has to have cash on hand to buy back employee shares when workers leave. This can divert cash from other business uses and can be a real drain if several employees leave in close succession.
Owners who want to sell their stake gradually, or who want to take some cash out of the business without giving up control, can recapitalize the business, or change its financial structure using instruments such as stock, preferred stock or debt.
For example, suppose there is an outside buyer who’s interested in the business but doesn’t want to buy it outright just yet. The company might issue preferred stock and sell it to the potential buyer. This gives the owner a cash infusion while the buyer has a chance to become familiar with the company’s operations before taking it over outright.
Or if there’s no such buyer and the business has healthy cash flow, the company might take on debt to buy all or a portion of the owner’s stake.
While there are many options for business owners who want to cash out, the best way depends on the nature and health of the business and the owner’s intentions to stay with the company or move on. Understanding all of the options, and getting good advice from experienced business professionals, can make it easier to pursue the route that’s best for all involved.
Posted in: Buying & Selling A Business