You may be wondering what an “exit strategy” is for your business or you may associate the term with a buy-sell agreement. An exit strategy is the process by which your company will transfer all or a portion of its ownership sometime in the future and a buy-sell agreement is often one aspect of the plan.
Exit Strategy Basics
Your entity’s exit strategy should be set forth in its Operating Agreement, bylaws, or other formal and binding contract. The basic elements of an exit strategy include:
- A clear explanation of what events will trigger the provision (most common triggers include divorce of owner, personal bankruptcy of an owner, deadlock between owners, default on loan secured by an ownership interest, death, disability or a member simply deciding it is time to leave the business)
- A detailed description of the methods a business owner can use to transfer ownership or membership interests
- An outline of the ways the value of the interest in the entity will be determined
Who Needs an Exit Strategy?
Don’t make the mistake of thinking only large companies need buy-sell agreements. The reality is that an exit strategy may be even more critical for small businesses where the business itself is the owner’s more valuable asset. Creating a plan for the future of your biggest asset is imperative to avoid financial and emotional distress.
What are the Exit Options?
Depending on the type of business entity, your buy-sell options can vary. Generally, the following are the four most common ways an owner can exit the business:
- Sell the interest to a third party. While this option may net the largest price for the individual selling his or her interest, it can be worrisome for the remaining owners. The third-party may not have the same goals or vision for the business.
- Transfer to a family member. Many business owners want to transfer their interests, whether by sale or by gift, to a loved one. Depending upon the circumstances, this can provide some comfort if the family member is willing to run the business with the same approach and care. However, it can make matters difficult if the family member does not have the skill or knowledge to take over the duties of the departing member.
- Sell to another Owner or an Employee. Selling to an employee you have groomed to take over can be beneficial for everyone involved, especially if the selling owner plan ahead of time to receive certain tax advantages.
- Sell the Entire Business. Some business owners intend to sell the business or liquidate it when it is time for them leave. This is typically what occurs when it is a closely-held business with only one or two owners.
The issue of how to value a business is a topic for another blog, so please check back or contact us to learn more. Obtaining the right advice from the start can significantly increase the likelihood of your business being a success. Contact The Swenson Law Firm for help.