Why every tech entrepreneur should build an exit plan into their start-up strategy

Compared to other industries, the technology business lifecycle can be remarkably short. Investors and industry incumbents are eager to absorb innovative upstarts, and transactions continue to increase on a year over year basis.

Mergers and acquisitions activity in the Canadian technology sector outpaced the next closest vertical by a third in 2018 and 2019. And, of the top 58 transactions in Canada since 2002, the average business was only 10 years in market. With more than two thirds of Canadian CEOs admitting in 2019 that mergers, acquisitions or a sale were part of their growth plans, it’s clear that planning for success must — at least in some part — always include planning for succession.

A potential transaction around every corner

Technology entrepreneurs often find themselves fielding unsolicited offers from competitors and other industry players. With innovation and consolidation being two sides of the same coin, potential suitors are one thing you’ll never have a shortage of.

Don’t find yourself flat footed when that offer comes. Instead, build a position that allows you to:

• respond confidently to any offer,
• gauge whether an offer is fair and in your and your team’s best interest, and
• maximize the potential outcome should you decide to move forward.

Following are some additional factors to consider so you can attract the right buyers, see the deal through to completion, and maximize your return when the deal is done.

Optimize your tax structure

Every transaction has three parties: the seller, the buyer, and the government. Pursuing the wrong tax strategy could find you giving up far more in taxes than you have to following a liquidity event.

Keep in close contact with your business advisor throughout your business lifecycle. They can help you retain more of your hard earned cashflow and advice on the best structure at any given point in time — from whether incorporating is the right option to navigating vesting periods for certain taxes.

Be mindful of your forecast

Be realistic about your business’ near- to medium-term earnings potential. Projecting an unreasonably optimistic outlook can be great for attracting potential buyers. But these deals almost always fall apart at due diligence and can poison the well for other potential suitors.

However, the opposite is also true. An outlook that is too conservative will either make it hard to attract buyers or cause you to leave money on the table.

A third-party valuator can help you determine a fair and reasonable assessment of your current business value. They can also provide helpful perspective to increase these figures and make the business lucrative to the right targets.

Address key risks prior to making your exit

A range of factors could impact your ability to exit the business cleanly and provide for a smooth transition to new management. These include certain contractual agreements, relationships with customers and vendors, and responsibilities to staff members. Be sure to consider:

• Change of control consents — What say do employees, key vendors, and key customers have in a potential acquisition and how might that affect the terms and closing of the transaction?
• Documenting relationships — Do any customers or suppliers have formal exclusivity / non-compete agreements or intellectual property rights that may impact the buyer’s ability to grow the business?
• Breadth of relationships — Is the business dependent on a small number of customers or vendors to operate and generate revenue?

Develop corporate goodwill

A charismatic leader can be invaluable to get a business rolling — but personal goodwill can’t be transitioned, can negatively impact value, and could restrict the buyer universe; particularly if the founder(s) is looking to exit.

Focus on building corporate goodwill by empowering more people throughout the organization to contribute to its success. Build a culture that rewards initiative, ideation, and collaboration. Bring on innovative leaders who understand the business and contribute vital and complimentary leadership skills. And, empower team members to build relationships and take on responsibilities.

Invest in systems and processes

Adopt technologies that allow you to track and communicate key performance metrics clearly and transparently. Implement tools like enterprise resource planning (ERP) and customer relationship management (CRM) systems to help track, analyze, and leverage your organization’s data.

These can also serve as invaluable proof points to demonstrate your current value and project future earnings potential.

For more insights and advice on how to position your start-up for a profitable succession, contact Kevin Tremblay, CPA, CA, CBV, CF, Managing Director, MNP Corporate Finance — or Saad Shaikh, Business Advisor, MNP Technology, Media, Telecommunications.