“Begin with the end in mind” is the famous second rule of Stephen R. Covey’s The 7 Habits of Highly Effective People. For the venture-minded entrepreneur, that end might be a successful business … but then what? What are the different paths to “done” for an entrepreneur starting out? Is it going public, getting acquired, starting a spin-off, or expanding to multiple locations?
The cliché playbook goes like this: A startup venture attracts visionary investors, delivers a brilliant product, balloons in size, and finally undergoes an initial public offering (IPO) leading to fabulous riches for founders, the cover of Forbes magazine, and limitless success. The entrepreneur then leaves the business behind and goes on to a life of investing, philanthropy, and checking items off the bucket list.
Fueled by such clichés, the early entrepreneur might imagine her exit strategy even at an early stage. It’s nice to daydream, but those who know the real world of entrepreneurship suggest learning the difference between chasing your dreams and believing in fairy tales.
“Exit strategies are all laughable,” says Steven Gold, senior fellow in social innovation. “The most common exit for young entrepreneurs is no exit at all, but rather failure or bankruptcy or liquidation. Given that’s the most high-probability exit scenario, it’s what they should focus on avoiding. The second most likely scenario is to continue to run the business. The third most likely exit is an acquisition. Going on to an IPO is a one-in-a-million shot for today’s typical entrepreneur.”
Startup statistics affirm Gold’s grim observation. Recent research from the University of Tennessee shows that 25 percent of startups fail within a year and 71 percent fail within 10 years.
Also, don’t count on the wisdom of venture backers to guarantee success. According to 2012 research by Shikhar Ghosh, a serial entrepreneur and senior lecturer in Entrepreneurial Management at Harvard Business School, three out of four venture-backed businesses in the U.S. don’t succeed enough to return investors’ capital.
“There are things an entrepreneur should do in case an exit does eventually appear,” says Gold. “We sometimes see early-stage entrepreneurs try to take shortcuts when it comes to legal services, but if there are ambiguities in partnerships or stockholder agreements, an acquisition later might become impossible. It’s really easy to avoid, but who in an early-stage venture wants to spend $5,000–$15,000 to do it?”
In addition to the long odds, starting with an exit strategy can be toxic to an entrepreneur’s intentions if focusing energy on the eventual exit comes at the expense of building a great company.
Even investors who have an interest in eventually getting a payout are dubious about exit strategies. Bob Davis, founder of Lycos and a first-rank venture capitalist with Highland Capital Partners, shares the VC perspective. “I wouldn’t have an exit strategy in any plan,” he says. “I’d have a business building strategy, focused on generating revenues and earnings and momentum. When that happens, the exit strategy takes care of itself.”
Although he confirms that acquisition is the most likely reward for success, Davis advises entrepreneurs to put that scenario out of their minds and plans.
“Buyers proactively seek you out, as opposed to you seeking out the buyers,” he asserts. “If a company is actively trying to sell itself, more often than not something is broken. The adage is true that companies are bought and not sold.”
Set Up For Success
To analyze the potential for acquisition, entrepreneurs have to know that the market they enter will be large enough to create a business others might want to acquire. You have to be able to answer the question, “Who cares?” Venture capitalists invest first in people, then in markets, and finally products, asking whether this entrepreneur can build a business this big in this market. If you capture 80 percent market share with a $10 million business, you’ll be in the “Who cares?” category for most acquirers.
“You need to be building your business as a stand-alone, self-sustaining entity,” Davis concludes. “Doing anything else leaves you with an uncertain outcome.”
Beginning with the end in mind, then, entrepreneurs need to acknowledge that no predictable exit strategy exists. And, that might be a good thing, if no exit means no choice but 100 percent commitment to a venture.
Posted in Entrepreneurs of All Kinds