Situation: A founding CEO is evaluating a purchase offer for his company. The buyer wants the CEO to retain some ownership interest to assure a smooth transition post sale, and ongoing assistance from the CEO so that the company continues to succeed post-sale. Should the CEO retain a minority share of the company? How do you structure an earn-out?
Advice from the CEOs:
The ideal option is full payment up-front. However, if the CEO is perceived by the buyer as critical to the company the buyer will want to have some assurance of continued services for some period.
An earn-out of fixed payments over time is acceptable provided that the language of the agreement is acceptable. However, performance-based earn-outs make no sense if the CEO no longer has control over the decisions that will impact performance. Don’t structure the payment as an earn-out, but as a retention bonus and assure that the terms are favorable.
Post-sale a minority share of your old company holds no value if you can’t monetize it. Holding a small share of a non-traded company has the same challenges.
It is all about liquidity.
If the other party offers this, ask what is the value is to you of the retained share.
Minimize the earn-out if one is demanded, but don’t count on it.
If there isn’t a strategic fit between the buyer and the company, the value of the company in a sale will be lower.
Situation: A company wants to create a liquidity event every 3-5 years. The objective is to increase shareholder value and also create opportunity for employees. How do you boost shareholder value and liquidity?
Advice from the CEOs:
What are the important considerations in evaluating different options?
Seek partners or investors with whom you have synergy and who will improve business prospects. There must be more than just their ability to provide cash.
What is the role of key management and employees post deal? For how long?
Are there timing aspects that help to maximize your own valuation? For example, if your business is cyclical, is there a time of the year when the financial picture is optimal?
As you evaluate alternative deals, evaluate the M&A fees around each option. Could these funds be used differently with greater impact on liquidity?
Technology spinoffs can increase liquidity while keeping the core company whole. Jack Stack describes this process in The Great Game of Business. This is also simpler and cleaner than many collaboration options.
Considering collaborating with or purchasing a complimentary company with an office in a desirable geography.
If an opportunity appears synergistic, dig to find the depth and value of the synergies.
Consider timing options. Are there prerequisites which will increase probability of success?
Roll-ups are doable but risky. It is hard to find examples that work. Challenges often come from of cultural issues and lack of compatibility.
Look at the experience of similar companies as benchmarks for what you might anticipate from various options.
Situation: A private company creates a liquidity event every 3-5 years: selling pieces of the company, product-based spin-offs, or potentially the whole company. Most frequently, engineering efforts spin off opportunities for new product-based companies. How do you measure company or business valuation with the objective of maximizing shareholder value and liquidity?
Advice from the CEOs:
Look at a model to create productized service offerings that are replicable and predictable. This can create a stream of spin-offs to generate ongoing liquidity events. Jack Stack’s company, Springfield Remanufacturing has done this very effectively over the past two decades. He describes his methods in The Great Game of Business.
Regarding selling the whole company, the most important measure is strong company performance in recent quarters. Focus on internal metrics as well as revenue and profitability performance. Put together a solid 3 to 4 quarters of profitability with an upward trend to increase appeal to potential acquirers. The current market requires both a longer history of profitable performance and more data points of performance than was required in the previous decades.
To compliment internal measures develop a relationship with a business broker who can help you assess the value of either product or company spin-offs. A broker can determine the current value of the opportunity as well as a timeline and critical actions to enhance opportunity value.
Consider a roll-up of your company and one or more of your business partners.
Look for similar or compatible financial structures and complimentary capabilities.
A roll-up can broaden your range of products and services. As a bigger entity you have more options, and can enhance your ability either to generate spin-offs or become a more interesting acquisition candidate.
The downside is the time that it takes to complete the roll-up if you feel you have a short window of opportunity.