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Finpoint - Financing choices can have a big impact on exit strategies

30th Apr 2013
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Business owners with an eye on the long game should consider their exit strategy when seeking growth finance. That’s because the choice of funding could affect the value of the business and their choice of buyer when the time comes to sell. And financing choices won’t just impact on exit strategies – a bad choice in the early days could impact on any kind of major transaction as the company grows.

Imagine the business owner of a small to medium sized enterprise (SME) is seeking a cash injection to invest in the development of a new product, plant, staff costs and for sales, marketing and distribution. Assuming the business plan stacks up, and market research and resulting sales projections are realistic, this investment into mostly tangible assets could be an attractive proposition for most investors and lenders.

So, the cash injection is secured, the product is developed and manufactured, it is a great success and the company grows exponentially. Then the owner-manager wants to change their lifestyle and to exit, or partially exit, the business.

What happens next is a fairly classic scenario for UK SMEs: they look for some form of a buyer, typically the existing management, another larger company, perhaps a business angel, or maybe a private equity or venture capital house. They may even be in a position to offer the business to a financial market, such as the London Stock Exchange’s AIM (formerly known as the Alternative Investment Market).

At this stage what inevitably crops up is the question: How did the cash injection arise?  

If it was equity-financed, and the original investors remain on board, then they present a possible barrier to the transaction. Perhaps the original investor does not want to sell, or wants a higher price. The existing management might be desperate to get rid of the investor, and refuse any invitation to make a ‘management buyout’. A larger company, business angel or other equity-based finance house may not wish to have a minority equity partner, fearing a dilution of their profit on exit.

Debt-financing may also impact on an exit strategy, but potentially to a much lesser extent. A cash injection received through a bank loan, invoice finance or asset finance comes with liabilities. Capital and interest repayments on a loan may turn off buyers seeking greater free cash flow and profits. Asset finance, and the charge over tangible assets that invariably comes with it, may discourage a buyer seeking to leverage the capital assets in the business.

In either case, a potential buyer may wish to clear the debt or buy the shares of an existing investor as part of the sale or transaction. Aside from the likely loss of sale value for the business owner as a result of their buyer having to clear their old debts and liabilities, there may be other implications. Paying off bank and other debts is likely to be more straightforward than a potential negotiation with an existing investor.

Although none of these problems are insurmountable, some could prove to be very expensive for a business owner. So it can pay, literally, to carefully consider financing choices with a view to the business owner’s eventual exit strategy.

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