Exploring Exit Strategies and Liquidity Events for VC-Backed Companies

Exit strategies and liquidity events are challenging circumstances at the best of times, but they can be particularly difficult if your company is backed by venture capital funds. This is because such companies often heavily rely on these funds and therefore can’t afford to make moves that could result in the withdrawal of outside funding. Further, it’s important that the company doesn’t fail to meet the terms set between the company and the venture capital firm. By better understanding exit strategies and liquidity events, you can develop strong contingency plans for your business that fall within the parameters of any business agreements that are in place.

Understanding Exit Strategies

In a business context, exit strategies are contingency plans that allow a business owner to sell all or part of their business during a time of crisis. It’s important to plan exit strategies early — well before they’re needed, so you have a strong plan in place already. Often, exit strategies are needed to raise capital or mitigate debts.

Types of Exit Strategies

Types of exit strategies include:

• Merger and acquisition (M&A) exit strategy: This is a strategy in which two or more companies consolidate. The process is often costly and complicated, but will ultimately offer new financial opportunities. Examples of successful mergers and acquisitions include Disney and Pixar, Dow Chemical and DuPont, and ExxonMobil.
• Selling your stake to a partner or investor: This is fairly self-explanatory: you find someone to buy you out. This is a relatively fast way to raise funds, but it comes with the downside of losing part of your business. A notable example of a business person selling stakes is Jeff Bezos’s 2024 sales.
• Family succession: Responsibilities and control of assets are passed on to a new generation of the family that controls the company. The successor may have the benefit of input from the previous generation, but businesses rarely survive such a transition in the long term. Examples of noteworthy family successions include the Walton family and the Ford family.
• Acqui-hires: An entity acquires a company primarily for the sake of gaining existing talent within the business. This allows the company to obtain experienced professionals, but these professionals may not be as loyal to the new controlling company. Examples of successful acqui-hires include Facebook’s acquisition of Glancee and Google’s acquisition of Bebop.
• Management and employee buyouts (MBO): This is a type of corporate restructuring that places ownership within a small group. This allows minimal business disruption but may affect client relationships as they may be hesitant to trust the new ownership. Examples of successful mergers and acquisitions include Michael Dell's 2013 buyout of Dell, Miguel Roggero's 2020 buyout of Fuse Media, and Michael Line's 2019 buyout of PwC's fintech division.
• Initial Public Offering (IPO): Also known as a stock launch, an IPO involves a company listing its shares on the stock exchange. This can allow the company to raise substantial capital, but there are a lot of regulations to comply with. Examples of successful IPOs include the Blackstone Group, the United Parcel Service, and Uber Technologies.
• Liquidation: This is a legal process by which a company terminates its existence to sell its assets and pay off debts. You’ll lose the company, but legal action will be halted. Examples of successful liquidations include Toys "R" Us’s 2018 liquidation of assets.
• Bankruptcy: Bankruptcy is a legal process that allows you to reduce or eliminate your company’s debts. However, there are several serious consequences, such as damage to credit. Examples of relatively successful bankruptcy decisions include those by Apple, General Motors, and Marvel Entertainment.

You need to be aware of your different options as a business owner, so you can make the right strategic move if the time comes.

Factors Influencing Exit Strategy Decisions

Not every business is the same and therefore you will need to evaluate many unique variables when considering exit strategies. Factors that should influence exit strategy decisions include:

• Business model: You need to understand and consider various elements of your business model, such as your operational structure and the means by which you provide value to your customers.
• Exit options: You should assess different exit options available to you, and determine which would be most feasible and beneficial for your business in your circumstances.
• Financial performance: You need to assess various aspects of your business’s financial performance, such as revenue, cash flow, and growth rate.
• Growth potential: You should get professional insight into the projections for short- and long-term growth of your business.
• Market conditions: You should consider various market conditions, such as supply and demand and the competitive landscape.
• Risk factors: Buyers will want to know what risks your business currently faces or will be likely to face in the future.

Once you’ve evaluated these factors, you should compile all of this information in a single place so it’s easy to review both internally and as presentation material for potential buyers.

What Is Exit Liquidity?

Exit liquidity refers to how easily you can sell your business assets on the market and how quickly you’ll have access to those funds. It’s vital to understand exit liquidity when you’re considering liquidating assets, as good timing can maximize the value you can get out of liquidation. You can determine exit liquidity by analyzing the market and determining at what prices similar assets are selling.

What Is a Liquidity Event?

A liquidity event is when a company sells off its assets. All exits are liquidity events, but while many liquidity events involve exits, not all do. It’s possible to liquidate your assets without losing control of the business.

Common Types of Liquidity Events

There are several options for liquidating your assets, and it’s important to understand your options to choose the one that’s most feasible or beneficial for your company. Common types of liquidity events include:

• Public offerings: Public offerings are shares listed on the stock exchange. This is a good way to gain capital, but also comes with many regulatory burdens.
• Mergers and acquisitions (M&A): Mergers and acquisitions involve merging and consolidating businesses. This results in shared resources but can also create issues regarding shifts in branding and company culture.
• Buyouts: A buyout is when a new party gains control of the company’s interests. This is typically a costly process but can provide a fast track in terms of gaining a competitive advantage in your market.
• Secondary transactions: A secondary transaction is when an investor obtains shares from an existing shareholder, rather than directly from the company or listings on the stock exchange. This is a good way to gain capital quickly but you aren’t guaranteed to find buyers.

Once you’ve determined which option will be best for your circumstances, it’s important to craft and execute your plan with care.

Preparing for a Liquidity Event

Here are the steps you may take when preparing a company for a liquidity event:

• Clearly outline your financial goals.It’s important to understand what you want to achieve as a result of this liquidity event.
• Develop an equity compensation plan.Gather relevant documents and review them with a wealth advisor.
• Prepare for a period of illiquidity.You may not have immediate access to funding, so you need to be prepared to weather a waiting period without those funds.
• Document the details of your stock holdings. Gather documentation regarding information like your share purchase and your tax payments.
• Conduct a risk assessment.A professional risk assessment can help you understand any potential issues you’re likely to encounter during the liquidation process.
• Assemble your advisory team.A dedicated advisory team can help lead you through this process and avoid any financial or legal pitfalls.

It’s also important to consider the costs of these preparations.

Challenges and Risks in Exit Strategies and Liquidity Events

One of the most important ways that you can improve your chances of a relatively successful exit or liquidation is by understanding common challenges and risks. Potential challenges and risks for exit strategies and liquidity events include:

• Tax liabilities: You must ensure your tax documents are in order so as to avoid any fines or legal action.
• Cash flow issues: Cash flow issues can result in stunted liquidity.
• Capital losses: The seller may experience losses as they sell off certain shares.
• Valuation challenges: There may be disagreements regarding the valuation of various assets.
• Legal issues: There are often many legal hurdles to navigate when it comes to the liquidation of business assets, making it crucial to consult legal professionals throughout the process.
• Communication issues: Communication issues inside the organization, between the organization and shareholders, or between the organization and potential buyers can cause many roadblocks in the process.
• Unideal market conditions: Liquidation during a time when the market isn’t ideal can result in lower capital than you could otherwise receive for your assets.

It’s important to assess the market, prioritize communication, and use the knowledge of professionals as you evaluate when and how you should approach liquidation.