An “exit” is one of the methods an equity investor uses to get a return on investment. Companies should consider exit strategies at an early stage of the company lifecycle, as it will shape the strategic decisions made along the way, including how and where to grow.
This is especially true for social enterprises which must also consider elements such as mission and the impact of an exit on customers, not only profit and investors. Some social enterprises will find an alternative exit structure more appropriate, but many may be able to utilize an investment structure that relies on the traditional exit. The best strategy will depend on business type, company size, financial value, investor profile, and mission alignment.
For investors, exits are important for a number of reasons including having the option to recycle funds to other investments.
This article explains the types of traditional exits and corresponding considerations for social enterprises.
Key Considerations for Deal Structuring
In addition to financial and operational considerations, social enterprises must also consider how an exit strategy affects their mission/impact. Some strategies may amplify the depth or breadth of the impact, whereas others may distract or detract. Founders/Managers should consider this early on, as miscommunication or confusion early in the enterprise life cycle could result in higher multiples and over-valuation, which could force the enterprise to be more aggressive in growth and sacrifice the mission.
Different exit strategies will affect not only the company and investors, but also customers. In the case of social enterprises, the company may be the only provider of a basic good or service in the area of operation. When considering exit options, consider questions like “Will an intense focus on scaling or profitability shift the business away from poor or rural customers?”
Common Exit Structures
Definition: Integration of entities or takeover of one entity by another entity. The exit to the equity investor comes from the assets used to purchase the entity. If the assets used to purchase the entity are illiquid, then the acquisition has not resulted in an exit.
Common Motives for Acquisition
When the acquirer comes from a different business sector than the entity acquired
Benefits: Strategic acquirers can come from a wide range of sectors but share similar motivations. Strategic acquirers and investors often want to either increase their presence, or gain greater insight into the emerging markets where social enterprises operate. They may also be interested in exploring a complementary product or service to expand the reach or impact of the enterprise.
Challenges: Social enterprise business models can be complex and differ from the core capabilities of potential strategic investors. Overcoming this requires time and resources from the strategic investors for them to understand the sector and theory of change.
Sector Merger & Acquisition
Integration of entities or takeover of one entity by another in the same sector
Benefits: A sector merger or acquisition leverages existing synergies between companies, which could also mean amplified impact for a social enterprise. This would extend the reach of both companies to access new geographies, customer segments, products, distribution channels, etc
Challenges: Misalignment of mission is a risk in mergers or acquisitions of social enterprises. Even if they are aligned, other (even though larger) social enterprises may not have the capital to purchase other companies, particularly if investors are seeking a high valuation. Other companies may want to create their own tailored solutions in house instead of buying another company.
The sale of existing equity shares to a secondary investor (such as VC funds, private individuals, private equity, investment banks, or dedicated secondary sales funds). This does not occur during full acquisition.
Benefits: Secondary sales, even those resulting only in partial exits, are a vital source of liquidity for investors. Existing investors may choose to buy the shares, which simplifies the capitalization table and gives them more control over the company. Secondary sales can also attract new investors. Strategic investors have shown a willingness to make secondary investments as a way of getting a foot in the door to better understand the sector without taking on the risk of early stage investment in an unfamiliar area.
Challenges: Secondary equity sales sometimes occur at sizable discounts to primary capital raises, resulting in cases where early investors may be unwilling to accept secondary purchase offers when they do materialize. Social enterprises must also be aware that perceived share price volatility can deter later-stage investors, such as PE firms.
IPO, or initial public offering
Process of offering company shares to the public through the issuance of new stock
Benefits: An IPO provides access to a large pool of capital for the company and gives earlier, private investors a chance to realize gains, particularly for social enterprises in industries that lack many potential acquirers.
Challenges: IPOs are generally uncommon for social enterprises, especially in emerging markets. Depending on the enterprise and industry, there may not be a significant pool of potential buyers to make exchanges liquid. An IPO can also be taxing on a company due to the costs to execute and the stringent reporting and budgeting systems required to be publicly listed.
The sale of existing investor shares to company management or founders.
Benefits: Share buybacks restore greater control over the company to its founders or management, allowing them more flexibility in decision making, especially when it comes to mission (in the case of social enterprises).
Challenges: Social enterprises may be overvalued and therefore lack the cash for share buybacks.
Download four case studies of Traditional Exits in African off-grid energy companies by Acumen and Open Capital Advisors:
This content has been developed from Lighting the Way: Roadmap to Exits in Off-Grid Energy. The full report can be accessed at https://acumen.org/energy-exits-report/
- Original report was published by Acumen and Open Capital Advisors, a regional ITP partner organization.
- The report was adapted for this site by Melody Jensen from the ITP team.