M&A, ESOP and Valuation Resources

Choosing the Best Exit Strategy for Your Middle Market Business

Written by Michael Poole | May 17 2019

A well-planned exit strategy has far-reaching implications for your financial future, the stability of your company, and the well-being of your employees. An effective exit strategy ensures that you, as the owner, are prepared to leave the company in capable hands while maximizing the value you've created.

This guide explores three primary exit strategies suitable for mid-sized businesses: selling to a Strategic Buyer, a Financial Buyer, or transitioning ownership through an Employee Stock Ownership Plan (ESOP). Each path offers distinct benefits and challenges, and the right choice depends on your personal goals, the needs of your business, and your vision for its future.                  

Why an Exit Strategy Matters

Planning your exit isn't just about maximizing financial return; it’s about creating a lasting legacy, safeguarding employee futures, and ensuring a smooth transition in leadership. A well-chosen exit strategy allows you to control how your business will continue without you, shaping its future while securing yours.

An exit strategy can help you achieve:

  • Wealth Preservation – Setting yourself up for a comfortable financial future.
  • Leadership Continuity – Ensuring strong leadership for a stable transition.
  • Company Legacy – Preserving the brand, values, and culture you've built.
  • Employee Morale – Offering your employees continuity, security, and future opportunities.
  • A strong exit strategy is not simply a sale; it’s a way to ensure the continued success of your business and protect those who’ve helped it grow.

 

Understanding Your Goals and Succession Plans

Before exploring specific exit strategies, it’s essential to clarify your personal and business goals. Ask yourself questions like:

  • Who will take over the business after you leave?
  • Are you interested in staying involved with the company in some capacity?
  • How important is it to you to preserve the company culture?
  • Do you need the proceeds from the sale immediately, or are you open to a more gradual payout?

Your answers will guide you toward an exit strategy that aligns with your personal objectives and positions your business for future success.

Exploring the Three Main Exit Strategies 

Each of the three primary exit strategies offers different pathways for business owners. Understanding these options can help you make a more informed decision that aligns with your goals.

  1. Strategic Buyer
  2. Financial Buyer
  3. Employee Stock Ownership Plan (ESOP)

1.    Strategic Buyer: Ideal for Maximum Liquidity and Quick Exit

A strategic buyer is typically a company operating within your industry or supply chain, such as a competitor, supplier, or even a customer. Strategic buyers are generally interested in acquiring businesses that will complement their existing operations, allowing them to create synergies and expand market share.

Buyers

Strategic buyers are typically from your industry.

  • Competitors
  • Suppliers
  • Customers
Percentage of
Business Sold

100%.

Strategic buyers are likely interested in a controlling interest only—in order to merge your operations with their own.

Timing ofProceeds

100% proceeds at time of closing.

A sale to a strategic buyer is optimal for business owners in need of maximum liquidity.
Seller’s Role
Post-Sale

Negotiable.

The seller’s role post-sale is usually negotiable. Many owners can exit immediately, though some may be asked to stay on temporarily for a smooth transition.

Impact on Culture

Uncertain.

New owners are likely to introduce their own processes and reporting structures, which means there is no guarantee that your company culture will be retained.

Necessary for Successful Transaction
  • Ability for the company to run without its current owner.
  • Strong processes and financial controls in place.
  • Strategic buyer that is the right cultural fit for your employees.

Advantages
  • You retain the ability to exit your business without further involvement.
  • Strategic buyers understand your industry and will take care of your customers.
  • The buyer usually provides 100% consideration at closing.
  • Strategic buyers might pay a premium for synergies.
  • Your employees will have more opportunities in the larger merged entity.

Challenges
  • The best buyer might be your competitor. 
  • Finding the right strategic buyer takes time.
  • The transaction process could be slow, but the buyer’s industry knowledge will be helpful during the due diligence phase.
  • Such a transaction could expose company information and trade secrets to competitors. Even though you will be protected by an NDA, there is still risk.
  • Your company name and culture might be lost in the merger.

2. Financial Buyer: A Growth-Oriented Partner

Financial buyers, including private equity groups, family offices, and institutional investors, focus on buying companies to generate a return on investment over a set timeframe. These buyers may acquire either a controlling interest or a minority stake, depending on their investment objectives and the level of involvement they expect from the current management team. Financial buyers typically invest through platform investments or add-on investments:

Platform Investment: This is a financial buyer's initial acquisition in a specific industry or market. Platform investments usually involve companies with strong management teams, competitive advantages, and scalable operations that can serve as a foundation for future growth through additional acquisitions.

Add-On Investment: Once a platform is established, add-on investments are complementary businesses acquired to expand or strengthen the platform. Add-ons are often smaller companies that align with the platform company’s operations, providing new capabilities, geographic reach, or cost efficiencies through synergies with the existing platform.
 Buyers
 Institutional Investors
Percentage of Business Sold
Majority or Minority
In most cases, a financial buyer seeks a controlling interest; however, certain groups invest in minority positions of companies seeking growth capital or a financial partnership.
Timing of Proceeds 
 
Depends on how your company fits into the financial buyer's investment portfolio:
  • Platform investment: substantially all proceeds at closing, except for the reinvestment amount.  A financial buyer might require a seller to reinvest some of its proceeds into the new company.
  • Add-on investment: 100% of proceeds received at closing 
Seller's Role
Post-Sale

Depends on how your company fits into the financial buyer’s investment portfolio:

  • A platform investment typically requires you to remain in a management role and continue to operate the company.
  • An add-on investment could be more flexible.  You likely will be required to remain with your company for a transitional period while the two companies merge.
Impact on Company Culture

Uncertain

You might be able to reinforce your company culture during the investment period, but its survival after your complete exit is uncertain.
Necessary for Successful Transaction
  • Solid management team
  • Strong market position
  • Sustainable competitive advantages
  • Favorable industry and company outlook
Advantages
  • Financial buyers typically focus on their industries of expertise to bring
  • their knowledge and industry contracts.
  • Financial buyers are well-versed in the deal process, so the transaction
  • tends to be quicker.
  • You will maintain day-to-day operational control.
  • Financial buyers focus on growing the company, resulting in additional
  • return on reinvestment.
 Challenges
  • If synergies with your company do not exist, financial buyers might offer a lower price than strategic buyers would.
  • Financial buyers often use excessive leverage to finance the transaction.
  • Financial buyers focus on maximizing short-term profits, possibly at the cost of long-term value beyond their investment horizon.
  • Financial buyers might need to be educated on your industry if your company is a platform investment.

3.    ESOP: The Path to Legacy and Cultural Preservation

An ESOP is a specialized exit strategy in which employees buy into the company by purchasing stock through a trust. The ESOP option is well-suited for business owners who want to preserve the company culture, retain employee morale, and maintain the brand’s legacy. The ESOP provides employees with a beneficial interest in the company, incentivizing them to contribute to its success.
Buyer
ESOP trust.
An ESOP trustee oversees the ESOP trust.  The trustee retains legal counsel and a valuation advisor as part of the ESOP team.
Percentage of
Business Sold
Majority or minority.
ESOPs provide the most flexibility among the three exit strategy types; any percentage can be sold.  Either bank or seller financing could provide the access to liquidity that you seek.
Timing of Proceeds
 
Negotiable.
Commonly 30%-50% at closing and then the remainder over 5-7 years.
ESOPs are commonly financed with bank financing and seller financing, meaning a note is issued to you for some percentage of the total proceeds at the time of closing.  The principal of the note is paid to you over a negotiated term, plus interest.  This structure is ideal for owners looking to retire in the next 3-5 years and to preserve the culture and legacy of the company.
Seller’s Role
Post-Sale
Seller’s decision.
An ESOP provides great flexibility in determining your future tenure with the company but requires a strong senior management team for you to exit completely.
Impact on Company Culture
Greatest assurance that your company culture remains.
Your company name will stay on the building.  You can rest easy knowing your seasoned senior managers—the people who really understand the business—will continue to take care of employees.  Because the employees have a beneficial interest in the company, each employee focuses more on the company’s success, which has been shown to result in higher productivity.
Necessary for Successful Transaction
  • Solid management team
  • Knowledgeable valuation expectations
  • Understanding of ESOP structure and requirements
  • Right ESOP trustee and team
Advantages
  • An ESOP provides the greatest flexibility in percentage of company sold.
  • An ESOP provides significant tax benefits to both the seller and the  company.
  • An ESOP is the exit strategy type most likely to ensure the company culture’s survival.
  • The transaction aligns the company’s and employees’ values.
  • The transaction process is efficient.
  • The transaction does not expose company information to competitors.
Challenges
  • You will not receive any premium for synergies.
  • You might be required to stay on for a transitional period.
  • The transaction requires a minimum number of employees (typically >20).
  • You receive  cash at closing, with some proceeds provided over time.
By carefully evaluating each option in the context of your goals and succession plans, you can make informed decisions about your company's future. A well-crafted exit strategy goes beyond financial gain; it ensures a smooth transition and safeguards the legacy you've built. This guide provides a solid foundation, but consulting with a qualified advisor can help you navigate the nuances of each strategy and ultimately pave the way for a successful exit.

 
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