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Exit strategy.(leaving your business)

Restaurants Hospitality, March, 2003, by Gerald W. Brown, Sr.

Some day you'll want to harvest the fruits of your labor and leave the business for other endeavors. Before you do, you'll need a solid exit strategy. Here's the first part of two-part story on how to successfully do just that.

What's my business worth? What is my exit strategy? What am I going to do about capital gains? These are three of the most important questions that a business owner will ever ask. The following is the first of a two-part series designed to address each of the three questions objectively and in language that can be easily understand.

To give you some idea as to the importance of establishing an exit strategy early on (preferably in the infancy stage of your restaurant), let's take a look at some of the alarming statistics related to start-ups and businesses that are for sale. Over one million businesses are started in the U.S. each year and 95 percent of them will never reach their tenth year.

Last year, more than 1,4 million businesses were offered for sale, and only 228,000 of them actually sold. Of those that sold, 87 percent received less than fair market value and 42 percent sold for less than the value of their assets.

By establishing an exit strategy, you are more likely to manage the value of your company and much more likely to create a company that someone would want. You have to start focusing on your operating and exit strategies and manage your company with the end in mind. Once you have established this strategy, all business decisions and operational focus should reflect that exit plan.

So, what is your exit strategy? Before you can answer this question, you have to know what your various options are. There are seven basic options:

Sell to a financial buyer. Selling to an individual has its barriers. More often than not, they have limited capital and will require you to carry some terms equivalent to the intangible or goodwill portion of the company's value, if not more. An individual usually does not want to pay fair market and will try to negotiate you down closer to asset base.

In terms of transition, they may just want you around long enough to make introductions, train them on the basics and help them collect the outstanding accounts receivable, usually no more than 60 to 90 days. Confidentiality can be an issue if the potential buyer resides in or has ties to your market. Employees and customers get very nervous if they know the business is for sale.

Sell to a strategic buyer. The second option involves selling yo a company that wants to expand into your industry or market. It could also be a competitor wanting to dominate the market or even a public company looking to grow through acquisition. A strategic buyer usually has a strong capital position, requiring you to carry limited terms, maybe just enough to provide the company with the assurance that you will help in the efforts toward an effective transition and future.

A strategic buyer is more willing to understand and pay fair market value. The company may want you to stay on in a key operating position for two to five years. Confidentiality is more of an issue with a strategic buyer because the company is in the industry or market and the last thing you want is your potential buyer using sensitive information to the detriment of your company.

Sell to a key employee or employees. Employees are similar to financial buyers because they typically have limited capital and you'll likely be required to carry some terms, although the banks are usually more comfortable loaning to a key employee than to an individual outside the company. On the other hand, employees usually do not want to pay fair market and feel they should get a better price because they have helped you build the business and you don't have to go to the expense of finding a buyer.

Transition will likely be shorter because they are already familiar with the business.

The most sensitive element when dealing with an employee will be confidentiality. A potential deal could certainly have a negative effect if your employees knew you were considering selling to one or more of their fellow employees. You can never predict how an employee is going to react to the idea that the company is for sale.

Sell to all of the employees through an ESOP. An Employee Stock Ownership Plan can be a very effective method of exit if all the aspects related to a successful ESOP are present. An ESOP will require a strong, self-sustaining management structure and a core group of vested-level key employees. With an ESOP, you are more likely to get fair market value for the business and possibly a premium because an ESOP is usually based upon a value determined by a formal business valuation with limited or no negotiating.

For you, there are many tax benefits. It's one of the best ways to avoid capital gains. Confidentiality is also important with an ESOP because you need to keep the proposed ESOP confidential from the general employee population until you are sure of what you want to do and that the plan is a feasible option.

Take your company public. You can accomplish going public in different ways, but it requires a tremendous commitment, both physically and financially. A public offering requires solid operating systems and a strong management structure, The Securities and Exchange Commission must approve every aspect of your business and the offering. On the other hand, you are more likely to get a premium price, often well above fair market. Going public provides many options for capital funding for expansion and growth.

It's referred to as the "ultimate exit strategy" because it provides the business owner with a paced and controlled exit.

Manage for life. This option might be for you if you can't imagine retiring or you dream of keeping the business in the family. Even in this scenario, you need to plan for the future, develop operating systems and controls, and structure the company so that one day you can successfully hand it down to your children, family members, or key employees. All too often the business cannot survive the decisions that the second generation makes. It's important that you create a self-sustaining enterprise through effective operational systems and controls. With those operating norms already established, the business will take on a life of its own.

Controlled and planned liquidation. Part of a successful liquidation is to determine the optimum operating and profitability level of the company within its market and industry. Your objective should be to exceed this level during the life of the company so that when the time comes for your exit, you can purposely stop growth and/or expansion, scale the company back to this level of optimum performance, streamline the operation and bleed its cash flow. This process takes time, patience and planning. It can be an emotional roller coaster to exit through liquidation. If this is your strategy, liquidate on your terms.

That summarizes the seven options to exit. Next month, we'll address the questions, "What's my business worth?" and "What am I going to do about capital gains?"

Gerald W. Brown, Sr. is c.e.o of RSI & Associates in Corpus Christi, Tex.

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