Welcome to the last installment in the “How To Startup” series and an often overlooked step when creating a business: exiting. In short, an exit strategy is exactly what it sounds like - a way out, sort of. I say sort of because frequently a sale of a company is just a new beginning, but more on that below. Startups usually seek an exit to generate investment returns for their investors and shareholders (usually including their employees), or sometimes to limit losses. It is important for founders to keep the possibility of an exit in the back of their minds at different stages of the business’ growth. Some startups are “big swings” where founders and their investors believe the idea and the team have the potential to turn the company into a multi-billion dollar public company. But many startups are smaller ideas where a smaller sale is a good outcome and is something always to be explored. It is important for founders to know which of these best describes their company.

As we’ve already learned in previous installments, the most successful entrepreneurs are the ones who plan ahead. So now that your company has traction and growth—or you’re a proactive entrepreneur who wants to get ahead—it’s time to think about an exit for the business.

Types of Exits

There are many different common exit strategies, but ultimately the one you choose will depend on your own business, personal and financial goals. I cover some of the pros and cons of each strategy below.

Liquidation

Failing, but “failing fast” and liquidating can sometimes be the best route to minimize losses for a business. You’ll likely find yourself in one of two scenarios when considering a liquidation: you’re already at the end of your rope - be it financially or otherwise - or you can see the end coming. If you’re fresh out of cash, evaluate how you can responsibly wind down the business for all parties involved - yourself, employees and investors. If you can tell early on that you don’t have product-market fit or traction and you still have cash left, plan to exit early and return money to investors. A great example of this is when Jeffrey Katzenberg returned $350M to investors instead of simply running Quibi until it was out of cash.

Sale or Acquisition

If you plan to sell your company (a.k.a. if it is getting acquired), you can receive payment from the acquirer in cash, stock or a combination of both. The acquirer can pay you cash for the company or you can exchange your stock in your company for shares of stock in the newly combined company. This will let you maintain being an active participant and shareholder as the company continues to grow. It’s not common in tech for acquisitions to involve both cash and stock. If you believe the company is poised to continue scaling, then definitely consider receiving stock as a part of the transaction. A famous example of this is when Facebook purchased Whatsapp for $4B in cash and $12B in Facebook shares in 2014, helping them grow into developing markets. The Facebook stock that Whatsapp shareholders received ended up being worth many multiples of the $12B which it was valued at during the time of the deal.

The amount a startup can sell for is determined by a few factors. Here are a couple of examples of how valuations are determined:

- If it’s a small company worth <$10M, it’s probably an acquihire (the process of acquiring a company primarily to recruit its employees). In this case, acquirers usually value the target based on how many engineers or product people are at the company.

- If it’s a deal worth <$100M, it’s usually priced more on strategic fit than real analysis such as what the target brings to the acquirer. This could be technology, a great team, a new business line they can build on, great potential of the merger, etc. For example, when I was CEO of Zillow we acquired 16 companies, most of which were in the $10M-$100M price range, and we always determined fair value by focusing on the overall level of strategic fit of the target more than evaluating the actual financial results of the target.

- If it’s a bigger deal with >$100M, the target’s financial results are usually benchmarked against other public comps and require real math to analyze. At deals of this size, advisors such as investment bankers usually participate in the deal and bring the analytical rigor and external perspective needed to evaluate the fairness of the deal for both sides.

Sometimes a sale is the end of the road for a company. But more often than not, it is just the beginning of the next chapter. For example, when Zillow acquired StreetEasy, the leading real estate portal in New York, we invested significant resources to grow the company after the acquisition. We added headcount, rebranded the company, invested in advertising and grew it substantially post-acquisition. Far from the sale being the end of the company, it was really just the beginning. Another example is Google’s acquisition of YouTube in 2006 for $1.65B of stock. At the time, YouTube was struggling with a myriad of legal and copyright infringement issues from content owners and was struggling to keep up with user demand. Under Google’s ownership, YouTube cleaned up its content copyright issues, invested tens of millions of dollars in technology to improve the service, and today YouTube is probably worth at least $100 billion under Google’s ownership and stewardship.

Initial Public Offerings (IPOs)

Traditional: Taking a company public is one of the ultimate goals for many founders, but it’s not exactly the finish line. In fact, it’s quite the opposite. For example, I named our IPO preparation at Zillow “Project Step” to emphasize to the team that it was just a “step” along the way towards building a great business.

In an Initial Public Offering, a company sells shares for the first time to public shareholders, and the stock is then traded on a stock exchange. This can be beneficial for a few reasons, such as being able to raise capital, get research reports written about the company and create liquidity for your investors so they can sell their stock. On the flip side, IPOs can be expensive (the fees are usually 5-7% of the amount raised) and come with a lot of uncertainty. One of the biggest challenges with this method is that the IPO window can be open or closed, and is dependent on things out of your control.

If you do pick this method, a piece of advice I often tell founders is to act and operate like a public company well before you actually are one. More on this and IPOs at a later date as I’ll probably do a separate piece on it.

SPAC Merger: A Special Purpose Acquisition Company (SPAC) is another way for a company to go public. With a SPAC, a publicly traded company is created for the purpose of acquiring or merging with an existing private company. One benefit of going the SPAC route is that, for now, company projections are permitted to be shared with investors during a SPAC merger which allows investors insight into a company’s growth prospects. I say “for now” because the SEC is evaluating this and there is speculation that it will no longer be permissible in the future. Another advantage is that you can select your shareholders through the Private Investment in Public Equity (PIPE) process plus receive advice and “sponsorship” from the SPAC itself which can be helpful to the company. The cons of a SPAC process are that it can be difficult to get enough investor focus on the company once you’ve gone public in this way, and SPACs are currently out of favor with investors.

Direct Listing: In a direct listing, a private company converts into being publicly traded but doesn’t actually sell any shares. Companies that choose to go public using this method usually have different goals than those that use an IPO - specifically, they do not need to raise capital through the offering. Direct listings create liquidity for existing shareholders and are usually less expensive than an IPO, but companies miss out on the chance to raise money.

Lessons On Exits

No matter what route you end up taking, when preparing for an exit: Always aim to be on the radar and top of mind for acquirers, understand your cap table and the goals of your shareholders, utilize investment banks and investors as resources and hire great M&A lawyers.

Missed a part or looking to reread? Part 1: Ideation, Part 2: Naming Your Business, Part 3: How To Pitch, Part 4: Surviving A Downturn, Part 5: Minimum Viable Product, Part 6: Product-Market Fit, Part 7: Scaling or read them all.