Image: © This is Engineering
In Stage 5
Why so keen to leave?
As soon as you mention to people you’re starting a business, they’ll start asking ‘how do you plan to exit?’ What they really mean is ‘how will you get the profit out of the company and into your/my bank account?’ It may seem a little demoralising to be asked about leaving before you’ve really got started, but the ‘exit’ doesn’t actually have to be the end. It’s good to know the final goal of a journey before you set out, so you can best prepare for it.
The first point to note on exits is that it’s not the only option available to you – it’s entirely possible to stay with the company forever, as an owner or employee. As with many decisions, there’s no right or wrong answer as to which path you take. There isn’t much useful advice we can offer here if you choose to stay, other than being aware that your role may change significantly over time to best meet the ambitions of the company and make best use of your skillset. The following section will cover what happens when you do exit.
There are several forms an exit may take, each of which can result in you remaining an employee of the company. An exit can be better thought of as a change-of-ownership-event – the moving of money and power, rather than of people.
Much like the rest of your journey, each stakeholder will have their own hopes as to what exit type to pursue. This will largely be governed by the ambitions of each stakeholder and their motivations for becoming involved. These are briefly summarised below:
Investors are interested in a financial return, normally within a specified timeframe and for a target multiple of their initial investment. For them, an acquisition or IPO is the likely preference. Angel investors in particular may also be motivated by seeing a new entrepreneur emerge at the end of it all, and any investor may be interested in societal benefits that result – typically (but not always) a secondary concern.
Universities have a broader definition of ‘impact’, which can take many forms. As with investors, additional income is a goal, and any income received would be free from the normal restrictions that public money comes with. A portion of the income will likely go towards covering the expenditure incurred in commercialising the technology – patents or the TTO’s administrative costs. They also want to demonstrate the successful adoption of technology for submission to REF as an impact case study, which can be worth £300,000 in additional funding. Adoption also creates societal impact, job creation and a positive impact on the local ecosystem; as charities, all of these are of interest to a university. In the longer term, it creates strong links with industry, role models for other academics, case studies with which to improve teaching and potentially graduate placement schemes.
On a personal level, rewards and returns may include any of the above. You can also include job satisfaction if you believe you will find the role enjoyable, enjoy learning new skills or if the technology addresses a problem you’re passionate about. To date, 79% of Enterprise Fellowships end up leaving the university to join the commercial world. Some people clearly prefer it to academia, although our programme is unusual in that we seek out those who specifically want to be the CEO.
“Investors are important in the process; however, they can drive the spinout to be something the founders do not want it to be. They both want an exit, but the path the investor sees is different and that can cause conflicts. On the other hand, an investor that spends time to understand the founding team and supports them in realising their vision is the basis of a successful relationship.”
You are likely to hit a point where it’s not your company any more (if it ever was), so the decision to exit may be completely or partially out of your hands. If investors own more than 50% of the business and they want to exit (subject to the articles of association and any drag along rights), it’s going to happen. With exits being inextricably linked to money, bitter disagreements can arise. While not the most exciting work at the time, the legal documents put together prior to this point will save a lot of hassle by preventing unnecessary disputes and friction, or establishing rules to handle them.
Worth considering in any exit is where the real value lies. It might be in the people, the brand, or the IPR. If it’s the IPR or brand, then it’s probably well documented already. If it’s the people and their knowhow, it becomes more complicated. You should guard against yourself or anyone else becoming indispensable to the company as a single point of failure, lest they become a liability. This can give the individual too much power in any negotiations, a risk investors will look out for, as they could leave or fall ill. At the other end of the spectrum, this can make you feel obligated to stay, or work long hours and suffer burnout.
You will need thorough documentation and a succession plan to de-risk the company, thereby increasing its valuation. Any exit negotiations may well stipulate the continuation of certain key staff, to ensure a smooth transition period.
Finally, although it’s good to have a plan at the start, you don’t have to stick to it. You are free to adapt to the circumstances as they present themselves. The reason you should consider your exit strategy now is because it’s such a common question to hear, particularly from investors. If you say ‘‘I don’t know, I haven’t really thought about it’’, they are unlikely to be impressed – let alone give you millions of pounds to put an incomplete plan into action.
Image: © Rolls-Royce PLC
Worth considering in any exit is where the real value lies. It might be in the people, the brand, or the IPR. If it’s the IPR or brand, then it’s probably well documented already. If it’s the people and their knowhow, it becomes more complicated.
“Commercialising research adds a very interesting and different perspective. I have enjoyed the journey from company formation through to exit, and the experience gained has benefited assessment of other potential opportunities. It is also very rewarding to see the research evolve into a marketable product, and see a company grow and people be employed based upon an idea and research conducted years previously.”
Image: © EngineeringUK
Consider potential exit
There are four primary reasons why you need to know your preferred exit strategy early, and to begin planning for it:
1) You must consider your skillset and experience, as well as what you enjoy doing for work
As a company grows, the skills required to run it change. Managing a close-knit team of five colleagues is radically different to running an organisation with hundreds of people spread across multiple locations. You probably don’t have those skills (yet), so be prepared to either learn them, ask for help, or step aside and let someone else take over. Investors will be aware of your experience thanks to that extensive due diligence process; if they don’t believe you are currently capable of running a large company, they will be keen to hear your plan to address this. Know your weaknesses, and surround yourself with a diverse team that compensates for these deficiencies.
2) It’s essential to get the team aligned
You may well be a founder, but as you now know, this is a team effort. You all need to be on the same page and aiming for the same exit, or at least narrowing down the possibilities, as the end goal permeates much of what you do. You don’t want board disputes (or office politics) interfering at crucial moments, or progress will suffer. Different routes to exit can benefit from different approaches; for example, if you want to be acquired, you want to stay on good terms with potential acquirers and insert yourself into key positions within the market.
By becoming a key supplier to the ecosystem, it becomes more attractive to buy you out rather than the alternatives of reducing their profit by repeatedly paying for your services or undertaking an expensive process of trying to replicate your expertise. An acquisition also prevents competitors benefitting from the edge you provide, so strengthening your acquirer’s position. The IPO route suggests a focus on increasing revenues and product lines and demonstrating the potential for rapid growth. Having an agreed vision gives you a single lens to consider all decisions through, and what strategy to take.
3) The business plan itself will be heavily influenced by the exit strategy
The timing of the exit and expected returns on investment will dictate the required growth, what products you release first, and in what markets. Different tasks have a greater and lesser impact on valuation, and involve greater and lesser risks, so will dictate what you pursue and when. Any investors will have strong views on this, as they will have broad deadlines and a desired return on investment. You don’t want investors trying to pressure you towards an early sale to meet their deadline if this doesn’t align with your own expectations.
Do you want the ‘quick win’ of proving the product works in an easy to reach market, before letting the acquirer handle perfecting the product and delivering at scale? If so, you potentially don’t need to plan for raising investment for scaling, or manufacturing it yourself. You may not need to sort out how to export to new markets, and so forth. This route might sound unambitious, but in some sectors it’s the most sensible route if scaling yourself is prohibitively expensive. If your exit is further off and will require multiple investment rounds, you’ll want to choose a lead investor who can also lead on following rounds, who has a long-term horizon and who you can happily work with for many years.
4) Investors want their money back, for which an exit (or dividend) is essential
A common fear for investors is that the company will take the initial investment to grow and become a self-sustaining successful company, at which point the management team are content with their lot and allow the company to plateau or grow relatively slowly at single-digit percentage figures. Without sustained and strong growth, the company valuation is unlikely to beat investing in the stock market; the investors may as well have invested there instead. The founders may well be happy in their stable and fulfilling job, but investors will be sorely disappointed that their funds are locked away and for all intents and purposes unreachable to them. Having a genuine and ambitious exit plan will go a long way to assuage their fears.
Which exit you want is entirely up to you and your co-founders at first; there is no correct answer, and everyone has their own preference. Your answer may well change over time for a variety of reasons, so be sure to check in with the core team periodically. What’s crucial is that you have thought it through and are proceeding accordingly – you won’t inspire confidence in an investor or new hire if you haven’t even thought about this. If you want to sell a company for ten million pounds, that doesn’t happen without a plan. Gather data on other exits by similar companies so you can best make your case to the team and investors, then record suitable metrics to assess if you are on the correct path. There is no need to narrow it down to a single plan as they are not mutually exclusive, but make sure you know what the options are and if you are on track.
“Talk to others who have done it; expect to do everything yourself (including the bits you know nothing about); make absolutely sure you've understood the potential market, what share you can expect to capture and how quickly (or how quickly you can exit). These are the only things investors will really care about. Try to get advice from entrepreneurs in residence as to whether you really have an attractive BUSINESS proposition, as opposed to a really good invention. Just because there is large potential societal benefit doesn’t necessarily mean it is commercially attractive.”
An initial public offering (or IPO) involves listing your company on a stock market. It’s a commonly discussed form of exit, while also being the least common occurrence by a significant margin.
For reference, there are currently just over two thousand companies listed on the London Stock Exchange, so they are almost as rare as spinouts themselves. Despite being well-established in popular culture, this is the least likely outcome, so stating it as your aim from the outset may come across as naive.
In an IPO, a privately owned company is turned into a publicly traded one. Any shareholder will then have the option to trade their shares on the open market. This is a complicated and lengthy process with significant due diligence involved and expert advice is a necessity, but it’s a long way off for now.
This is where another company, usually larger and more established than yours, buys your company. This could be to gain access to your IP or your team, to remove a competitor, insert themselves in a new part of the supply chain, or simply to gain access to your sector.
Displacing a major multinational corporation is going to be a hard business plan to sell to investors, but inserting yourself into an ecosystem by solving an unaddressed market can make you an attractive acquisition target. Acquisitions can often be in pursuit of a top-notch team, as much as a product. Make sure you’ve been hiring the best talent you can, and that each member of your leadership team is adding tangible value. In any case, core personnel would typically be expected to continue working for the new company to ensure a smooth integration, and there are laws protecting employees.
If this is a route you’d be interested in pursuing, engaging with someone to help market and sell the business could be an option. However, this is rare and may not deliver the strongest return. It probably won’t be your call on when this happens, as a third party may approach you.
A management buyout is similar to an acquisition, but the buyers are the senior staff currently working at the company. Part of the existing leadership team would purchase your equity stake from you and take over the running of the company. The investors can sell their shares to other investors, but that has less immediate impact on the management team other than corresponding changes to board membership.
The final option is to not exit at all, whereby you stay with the company from initial conception through scaling and growth to national and international success.
While this is an entirely possible outcome, you should be prepared for your role within the company to change dramatically over time. A lifelong career in any organisation would involve changes of role; just because you’re a founder doesn’t mean you would stay in the same role or be part of the leadership team forever.
Another potential outcome could be a profit-sharing or dividend-based approach. This is not strictly speaking an exit as such, but we mention it here for completeness. This is a method for all shareholders to profit from their investment without selling any shares. The board chooses to redistribute a percentage of the company’s profits to the shareholders in proportion to their stake, normally on a biannual or yearly basis. The downside is that it removes profit from the company which it could use to grow further.
Yet more due diligence
Whichever exit mechanic you take, more due diligence will be required, and naturally the amount of work involved will be commensurate with the purchase price.
The process will almost certainly be conducted by a third party, and they will be using an even finer tooth comb than the university and early-stage investors. This process will be measured in months, not weeks. It’s extremely important that you seek help at this stage, and ensure it’s not the same help you used previously.
Depending on the exit route, there may be an intermediary to facilitate the exit, which is especially likely for acquisitions. This third party will conduct initial due diligence, and will only let each party know who the other is when this has been completed. This is a step taken in an event where one competitor is taking over another, preventing the competitor conducting comprehensive due diligence and learning everything there is about their rival before pulling out of the sale and going away to carry out the work themselves. Agents that offer such services include lawyers and small-scale investment banks.
Regardless of the exit route you choose, this process will take time. Even when you’re selling the company directly, a clean break is rare.
Your business is more than a collection of people, patents, offices and documents. It’s also undocumented know-how and relationships which the acquirer will want to fully understand before you leave, as they only have one official chance to capture it all. You and other key staff will likely be expected to remain in post for a period to ensure a smooth transition, quite possibly in a different role as you take more of a back seat.
Stage 5 checklist
This list is indicative only and should be adapted both to your needs and the university’s process.
1) Consider exit strategy and understand the efforts required for each route:
✔ Understand the exit desires of any investors, co-founders and other significant equity holders
✔ Know who could acquire you
✔ Know how competitors have exited
2) Update business plan according to exit strategy
3) Contact relevant legal experts to assist with required due diligence