Commercialisation and Exit Strategies

Trade Sale Exit Ready Index

Copyright 2003 T. McKaskill

Proactive Innovation Strategies

Strategy without tactics is the slowest route to victory. Tactics without strategy is the noise before defeat.

The general who wins the battle makes many calculationsbefore the battle is fought. The General who loses makes

but few calculations before-hand. Sun Tzu

Hope is not a strategy. M. Henos

Exit strategy planning is about making choices about how you achieve the exit not just following a procedure, a

list of actions, or a series of steps.

Stuff Happens

• You cant control everything

• Major customer goes bust (HIH, Ansett, Enron)

• Economic or environmental disaster (Asian meltdown, Sept 11th, depression)

• Your sector changes through M&A or new major competitor

• You get sued (public liability, patent infringement)

• Someone files a patent before you

• Strategies need resilience and must provide successful outcomes in poor conditions

Why Exit

• Liquidity means you have real worth - ownership without liquidity is a liability

• Investors need to see an exit path - venture capitalist will not do a deal without a clear exit within 3 - 5 years

• You need to get a return on your risk beyond a salary

• Recruitment of star staff may be difficult/impossible without the upside of a exit

Building an Exit Strategy

• The ‘end game’ of commercialisation is an exit via a trade sale or a public listing

• Firms that are successful have similar attributes at each stage in the exit process

• These attributes provide the basis for establishing the quality of an exit strategy

• Each attribute can then be measured and an improvement plan devised

Innovation Indices

IPSpin-out

IPO

TradeSale

IP ReadyIndex IPO Ready

Index

CommercialisationReady Index

Trade SaleReady Index

Innovation Indices

• Defines attributes of successful outcomes• Measures progress in meeting each attribute• Provides an overall Index Score of Readiness• Identifies where additional work is needed• Can be used for investment selection, progress

monitoring and progress funding• Can be used to educate, guide consulting activity and

provide a platform to build a strategy

IP Selection

• Not all IP has the potential to justify the costs of commercialisation

• To exit successfully you have to be able to isolate and sell the IP (without the inventor)

• But you need the inventor and the institution to aggressively develop IP specifically for a spin out

• Then you need significant institutional support• The IP Ready Index identifies those attributes of

science that are most likely to be present in successful commercialisation projects

Commercialisation Strategy

• A spin out is a waste of time unless it can exit successfully

• Once you have identified the science, you have to create a spin out vehicle

• There must be an alignment of interests between inventors, the institution, investors and managers

• Skills and experience in entrepreneurial activity must be present, not just in science

• The Commercialise Ready Index identifies those attributes that are most likely to be present in successful spin outs

Trade Sale Exit

• Very few firms can achieve an IPO • More than 90% of exits are trade sales• A successful trade sale identifies buyers who have a

strategic fit with the IP• The buyer has specific requirements for the IP, the

people and the business• It may not be revenue, profit or customers that are

important – this may not be the same as an IPO strategy

• The Trade Sale Ready Index identifies those attributes that have been shown to achieve the best trade sale outcomes

IPO Strategy

• The IPO is the first step in a funding strategy• The market wants and needs a strong after market • Successful public listing requires proven sales,

profits and an experienced management team• Successful after market requires sustainable and

resilient multiple revenue streams in global markets• In a normal market good strong firms can always

raise funds• The IPO Ready Index identifies those attributes that

have been shown to create the best after market outcomes

The Trade Sale Process

Building Exit Readiness

Why Sell

• Stuff happens• Sometimes you need a break, less stress, security• “Take the money” – it is better in your bank than

theirs• Entrepreneurs can do it over and over again• You owe it to the other investors to give them a

return on their money and effort• You may make more money with the buyer• Successful exits are rare – you are a winner• Next time you can use other people’s money

Australian Venture Capital Exit Performance

Start Up

Angel/Seed

Early Stage

Development/Expansion

Late Stage

Harvest

IPOBack DoorListing

Trade Sale Failure/Life Style

Write Off

IPOBack DoorListing

Trade Sale

21%

32%

29%

5%

31%12%

31%

(in 2000 only 1% offunds under management)

11%

27%

33%

7%

Only 2% of firmsscreened getVC funding

Number $

OtherExits26%

Based on Golis 2002

Doing the Deal

• Simply a balance of risk and reward

• Understand how to identify and increase the strategic fit and the value to the buyer

• Identify and reduce risks to the buyer

• Be prepared for the negotiation

• Understand the impact on your company and on the buyer’s of the acquisition

• Make it easy for them to say ‘Yes’

• Have as few non-negotiable items as possible

Trade Sale Exit Readiness

• Alignment– Directors, shareholders, key employees all agree– Personal objectives can be met in a trade sale– Realistic expectations of post sale roles

• Governance and Due Diligence– Due diligence ready– Clean accounts, contracts, IP, relationships

• Strategy– Create competitive tension

Alignment

• Objectives, expectations and aspirations need to be exposed and discussed

• A clear exit objective makes the planning easier

• A trade sale strategy is not the same as an IPO strategy, you need to get an agreement on that

• Not everyone will have a future in the firm – who goes and who stays needs to be considered

• You can’t execute a strategy if people are going in different directions

• A disagreement can kill a sale

Ambiguities

• Unclear ownership of IP

• Outstanding customer obligations not documented

• Reasons for successes and/or failures not understood

• Intentions of key employees not known

• Future roles of senior executives not defined

• No clear development path for products

• No well articulated vision

Governance

• Show that the firm is efficiently, effectively and properly managed

• Good systems are in place for reporting, contracting, HR, and health and safety

• Use creditable and knowledgeable accountants and lawyers

• IP is well documented and protected

• Employment salaries and conditions and are industry standard

• Show that risks are minimised

Acquisition Risks

• What baggage are you carrying– Possible redundancies

– Old products

– Loss making activities

– Poor infrastructure

– Outstanding customer litigation

– Unfulfilled obligations

– Burdensome management contracts, shareholder agreements, option schemes, employee benefit entitlements

• Anything that has to be cleaned up will kill the deal or reduce the value

Attractive

• Value is in the eye of the beholder

• It is not about you – only about them

• Purchasers looks at opportunities and risks

• Can you articulate why they should buy

• Can you walk in their shoes - what makes it a good deal from their side of the table

• Can you anticipate problems in doing the deal and reduce or remove them in advance

• How can you make it work for them

Things That Reduce Value

• Time based not product

• Tied to culture, geography, legislation

• Highly dependant on key people

• Knowledge personal not codified

• Tied to key customer

• High switching costs (underlying supplier)

• Location (difficult to leverage)

Finding A Buyer

Firm

Directors

Advisors

ManagersEmployees

Customers

Suppliers

Partners

Alliances

Competitors

New Entrants

Children

Look For Strategic Fit

• What is your potential– Low penetration into market (resource bound)

– Underlying technology with further applications

– Customers with additional requirements

– Replication into other geographical markets

– Constraints which can be overcome (finance, people, skills)

– Scalability

– Additional business models (rental, internet, JV’s)

• What is their potential

• How would they use what you have

Internal Sale or Transfer

• Sell to employees

• Sell to management team

• Sell to existing investors

• Pass control to children

• Sell to external Directors

• May have to wait for the money

• May continue at risk

• May need to continue with guarantees

Sell To A Customer

• Customer may get control over an area of risk (you might go out of business or sell to a competitor)

• Customer may want to deny service to competitors

• May want a dedicated effort - e.g. to complete a major project

• They may want to on-sell to their customers

• They may want to move the business in a direction you are not interested in

Sell To A Supplier

• They may have income at risk (you might go out of business or decide to go to another supplier)

• They may have other customers for you

• It could be a diversification strategy

• You may be able to leverage their other products into your customers

• You may be the door opener for them

• Economies from underlying technologies

Sell To An Alliance Partner

• They may want to get control over the marketing and sales process

• They may want your share of the cake

• You might be able to go to another partner

• They may wish to deny their competitors from working with you

• You might not be going tin the direction that best supports their market strategy

• They may be able to expand your business

Sell to a Competitor

• Could be to take you out of the market

• They may want access to technology, customers, personnel, product

• They may want access to geography

• Competition may be reducing prices and/or increasing costs

• They may want to achieve critical mass

Sell To A New Entrant

• You might have domain expertise they need

• You might have customer base they want to penetrate

• It may be cheapest and/or quickest way of entering an established or emerging market

• They may want to shift their center of operations to a new market

• You may have domestic expertise of appeal to a foreign entrant

Sell To A Conglomerate

• Some companies are financially engineered where economies of scale in raising capital are their competitive advantage

• It may spread their risks across another market

• They may already have investments within the same market but at different product positions

• They may have common resources which can be leveraged

Competitive Tension

• Prepare to be exit ready

• Agree who can negotiate and let them do the deal

• Develop multiple potential acquirers

• Build ‘strategic fit’ for acquirers

• Have enough cash to avoid a fire sale

• Have an alternative exit path (eg. IPO)

• Keep the deal simple – make it easy to do the deal – reduce the number of non-negotiable items

Trade Sale Timing

There are three times to sell: EarlyLate, andExactly at the right time.

Selling at the right time, all the time, is intellectually impossible. Selling too late is foolish. That leaves selling early.

Nick Ferguson, Chairman, Schroeder Venture Holdings

Never Stop Selling

• Plan to sell from day one

• Always be prepared for the discussion

• Keep the books clean, watch out for litigation and for contingent liabilities (they kill deals)

• Things change - not always for the best

• You only have a piece of paper (stock certificates) until you see cash - it is not worth anything

• Money in the bank is a great comfort

Be Prepared

• Have a good set of lawyers and accountants - let them know your intention

• Don’t compromise on contracts

• Share the wealth - then everyone is motivated and will support the sale

• Understand what the valuation models are based on (products, customers, brand, recurring revenue etc)

• Wine and dine potential buyers

Have An Exit Game Plan

• What are your personal goals

• If you stay - you are no longer the Boss - what can you contribute

• Be prepared for all the top executives to go

• Make sure you are not irreplaceable

• Have a good idea of where the synergy is and have an outline plan to show how it works

• Understand what your shareholders want from the deal (cash, shares, jobs etc)

Proactive Exit Planning

• Not all exits have the same requirements

• Several different strategies for each exit are available

• You might limit your chances of a successful exit by closing off options through lack of forward planning

• Start with the ‘end game’ and work backwards

• You can plan for more than one exit path (IPO, trade sale, back door listing, MBO/LBO)

• Everyone can win

Why Use The Indices

• The Indices measure the ‘risk’ associated with a strategy.

• They emphasise resilience and capacity to weather change and unforseen events

• Being ‘Ready’ is the key to VC finance and access to the best advisors

• They provide a strategy map of best practice

• You know where you are and what you need to do to execute successfully

• They dramatically increase the probability of success

How to Use the Indices

• Looks simple, just a set of questions• Each question is based on years of experience and

has been fine tuned through validation• Scoring is complex and requires training to be useful

and consistent• Each item is weighted to provide the best overall

result• Considerable experience is needed to develop the

forward strategy• Strategies must be adapted to individual

circumstances (not one size fits all)

Index Advantages

• Strategy advice currently is unstructured, inconsistent and biased towards personal experience

• The Indices ensure a systematic and comprehensive coverage of risk areas

• Indices are independent, objective measures – takes the guesswork and emotion out of an evaluation

• Provides a scientifically based measure of progress – will achieve credibility in the scientific community

• May be used for assessment, progress monitoring, strategy development or progress funding

Index Validation

• Initial Indices have been developed in conjunction with a small number of practicing professional advisors and operating executives

• Additional validation has been undertaken by circulation to a wide list of interested parties

• Content has been validated with available literature

• Now requires validation on historical data (successes and failures in each category)

• Next, validation through a longitudinal study in each area