The Private Bank

Business Exit Planning: Choosing the Right Strategy

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June 23rd, 2023

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Whether you’re the owner of a small mom-or-pop store or an executive stakeholder in a Fortune 500 company, having an exit plan is a natural part of the business cycle, and is essential to securing your financial future. Some companies begin from inception with the objective of selling once the organization meets a certain revenue target or profit goal. For others, the right exit strategy is developed over time as the business grows and evolves. Regardless of your situation, having a clear and effective business exit strategy is important for your own financial security, and is in the best interest of your customers, shareholders, and employees.

So what is a business exit strategy, and how does one decide which strategy to choose? Here's a brief overview on how the most common types of business exit strategies work, and factors to consider when planning your personal strategy:

What is a business exit strategy?

A business exit strategy is a structured plan for a business owner to transfer or divest their ownership stake in a company with minimal disruption to the ongoing business operation. If a business is thriving, an effective exit strategy will help the owners to maximize the outcome from either an external sale or an internal transfer of the company. If a business is struggling, an exit strategy enables owners to limit their losses. In essence, an exit strategy is a blueprint for how to convert your business ownership into personal wealth or family/community legacy, and have the freedom to move into the next chapter of your life.

Common types of exit strategies

Broadly speaking, there are three common types of exit strategies for business owners. Keep in mind, the best exit strategy is the one that is the best fit for you and the stakeholders in your company.

Transfer the business to family members

This strategy involves transferring ownership or stock in the company to family members, typically children, who either work in the business or desire to gain ownership. Gifting and inheritance are the prevailing strategies when transferring to family members. The benefits of this strategy are that the family business’ legacy is preserved, the transfer of ownership can be carefully managed over time, and with the right planning can also be a very tax efficient strategy. Additionally, this strategy will likely involve the goal of preservation of income from the business to the owner during their lifetime, because there may not be an actual liquidity event or “cashing out" for the owner.

When considering this option, it’s important to consult with an accredited business valuation professional, your CPA, and other trusted advisors to understand and plan for the tax implications; as one goal of this strategy may be to minimize the reportable market value of the business and reduce generational wealth transfer taxes.

Sell the business to employees

For some businesses, creating an Employee Stock Ownership Plan (ESOP) is an effective strategy that provides company employees with a long-term, vested interest in the organization. An ESOP is a qualified retirement plan that rewards employees through beneficial ownership in the stock of the company. It also creates a liquidity event for the owner, with favorable tax treatment on the sale of stock to the plan and through tax deductions available to the company under the new ownership structure. This exit strategy also means the business stays with the employees and that the company culture will remain intact. Outside of an ESOP, there are many other creative ways to structure a sale to key employees, bearing in mind that it will most likely be a gradual transfer accomplished over time.

When considering this option, it’s important to understand that timing is key, and advance planning is a must. It can take between four to six years to implement an ESOP, and if you’re trying to make a faster exit this may not be the best choice.

Sell the business to a third party

Selling one’s business to a qualified third party is potentially the most lucrative exit option for owners, who stand to receive the bulk of a company’s purchase price at closing. In a strong market (or if demand for a particular industry is high), a sale to a strategic buyer or investment firm can result in a favorable sale price and terms. This strategy can be especially attractive if an owner’s children or employees are uninterested or unable to take on ownership of business. Working with a team of advisors including your attorney, CPA, and a broker or consultant who are experienced in business sale transactions is essential for this approach. Although third party sales are arguably the fastest exit strategy to implement, given they do not require building up the next generation of managers and leaders, advance planning to optimize the business for a sale and taking a professional approach to marketing the business to buyers will certainly maximize the outcome and results.

When considering this option, it’s important to understand the legacy you’ve built at the company may end once ownership changes hands. The new owner may decide to change the company culture you established, merge the organization with another, or dissolve the company entirely as they see fit. The trade-off of course is the possibility of a significant liquidity event for the owner.

Choosing your exit strategy

Although different types of businesses will require different approaches when deciding an exit strategy, there are several key elements that all business owners should consider:

  • What are your goals? Your personal objectives shouldn’t be overlooked when considering exit strategies. For example, an owner who wants to leave a lasting legacy may opt to transfer the business to family members. Meanwhile, an owner looking to maximize proceeds might instead sell the business to a third party. Understanding your goals will help you prioritize certain strategies over others.
  • What is your timeline? Ideally, business owners should consider and plan their exit strategy years in advance to allow for greater flexibility and options. If time is tight, transferring a business to family members or employees might not go as smoothly if they don’t fully understand how to manage the organization. Rushing through the sale of the business to a third party may lessen owners’ negotiating power or necessitate a sale under less than favorable conditions for the seller.
  • What is the value of your company? The valuation of your company depends primarily on the historical financial results, your business strategy and the outlook for profitability and growth, in the context of your industry and the market. Understanding the achievable value of your company under each exit planning strategy will help you decide on which is the right path for you, your family, and your stakeholders.

Bank of Hawaii understands that there is no one-size-fits-all approach when it comes to your business or your finances. As a client of The Private Bank, you have the support of our local team of experienced advisors to help you consider all of your options. Ready to get started? Your dedicated relationship manager can help—get in touch, today.

Dave Stinson joined Bank of Hawaii in 2019 as Vice President of Business Interests and Valuations. He has over 15 years of experience helping private company owners to value and transition their businesses. He is a Certified Exit Planning Advisor (CEPA®), an Accredited Senior Business Appraiser (ASA) with the American Society of Appraisers, and holds an MBA from St. Mary’s College of California and a Bachelor’s of Science in Business Administration/Finance from the University of Oregon.

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