Wait — you just started a company, why do you need an exit strategy?
The nature of being the head of a venture-backed startup is that you have to grow your company quickly, you have to grow it huge, and then you have to get out.
Even though most people might want to keep their company small and private for as long as possible, for investors, this is a losing scenario. Investors want to put in their money for a limited amount of time and then get a return on their investment.
Let’s look at it from the investor’s perspective:
About 90% of all companies investors put money into will go bankrupt. This means that investing money in your startup comes with a pretty substantial amount of risk. The odds are ever against their favor. The only way investing is worth it to the investors, then, is if the remaining 10% of companies that survive give them a return of ten, twenty, even fifty times their investments.
From the perspective of an investor, a ten-million dollar company isn’t worth a whole lot, so that leaves startups with a profound need to grow — and then exit. An exit is the term for when an investor gets a return on their investment in a venture-backed startup.
There are two basic exit strategies all startups follow:
A buy out is exactly what it sounds like. A larger company, usually one that is well established and has interest in the product the startup has created, will offer a substantial amount of money to purchase the startup. In this case, investors receive a chunk of their initial purchase equal to their equity back. The startup might then be collapsed into the larger company, or it might run as a subsidiary of the original.
IPO stands for Initial Public Offering. This refers to the startup turning from a privately owned company into a publically traded one. In this case, the investors won’t necessarily get out immediately, but they at least now have the option to sell and trade their stocks on the open market.
Notice that the exit in these cases aren’t necessarily an exit for the founders of the company.
When we talk about exit strategies, we’re talking about a way for the investors to get their money back, but the founders of the company can still work with and grow the company as they see fit. Facebook, for example, put up its IPO back in 2012, but Mark Zuckerberg is still running the company. The exit just gave his investors a way to reclaim their investment.
The point in each case is that investors don’t want to invest in a company that eventually goes bankrupt, and they don’t want to own stock in a private company that leaves them with no opportunity to sell. No matter how much they love your company, investors want to see a huge return, so it is essential to know your exit strategy and aim to get big and get out when you start your company.
- When we talk about “exits” we’re talking about ways for investors to get a return on their investments.
- Investors are looking for a return of 10–100 times their original investment. A $10 million company may seem impressive, but to investors, it’s not.
- You either need to aim for a buyout or an IPO; a buyout sells your startup to a larger company, while an IPO trades your company publicly.
- Grow your startup fast, grow it huge, and then get out.
- How soon is too soon to exit? Here’s a helpful article for when you should start thinking about your exit strategy (spoilers: it’s now).