When most people consider selling a small business, they often think about selling the entire company. However, there are instances when selling a portion of your business may make sense both strategically and financially.
Why Might You Sell A Stake In Your Business?
1. Desire to leave a legacy
After spending years – in some cases, nearly a lifetime – building a company from the ground up, it’s natural to feel an emotional pull to your business in addition to a practical one. Perhaps you want to sell a minority stake so that you can retain control until you’re ready to fully step back from the business. In this scenario, you might be preparing a successor (a current key employee or an important new hire) to take over, and incentivizing them with a minority stake in the company could be an appropriate path forward.
2. A need for specific expertise
Maybe your business has achieved significant success and has grown in a capacity that’s hard to manage as a single owner. Perhaps new product or service offerings require a skillset or industry-specific connections that you don’t have. Or maybe business has slowed so you’re looking to pursue growth, and know that hiring (or promoting from within) an expert to lead the entrance into new markets or enhance operational efficiency is the most promising growth opportunity. A decision like this often comes from the small business owner himself, but could also be required by the board or investors.
3. Liquidity concerns
Sometimes, selling a stake in your company is as simple as needing some liquidity, whether that’s to pay off debts, reinvest into the business, or utilize for personal expenses. In tough economic environments, getting cash from a bank might be nearly impossible. Selling a piece of your business is one of the only ways to raise capital without incurring additional debt.
Considerations
1. A minority stake is still a shift in control
The flip side of potentially acquiring an expert or leader for your business is that even parting with a minority stake means that there is another decision-maker at the table. This new shift in power can be difficult to adapt to, especially for small business owners who are used to making unilateral decisions.
Keep in mind that things like voting rights, management decisions (like hiring and firing, for example), and other “control” interests can all be proposed by a minority stakeholder and negotiated back and forth with you. Final details should be outlined in appropriate legal documents.
2. Settling on a purchase price could be tricky
Valuation is never black and white, but can be made even more complex when there’s a partial sale of the business in play. Traditional methods for vaulting an entire business like a multiple of EBITDA, an income-based valuation, or an assets-based valuation don’t easily extrapolate to a piece of the business. Assumptions will need to be made on both sides, the buyer’s and the seller’s, and compromise will likely be required.
3. Unforeseen complexities can cause disruptions
Like many other decisions you’ll make around your business, surprise issues will arise. These issues could include anything from the need to restructure your business to accommodate new stakeholders, to the downstream impact (positive and negative) on company culture and existing workflows that a new owner might inadvertently cause.
The more complex your new ownership structure is, the more likely it is to come under scrutiny should you ever sell to a third party. Be sure to keep your future exit strategy in mind as you structure terms of a minority stake.
Impact On Phantom Stock
Within the MARE Stock agreement specifically, a partial sale triggers a payout event. While the plan references a majority stake as the threshold, this can be changed to suit a given business’ needs.
More specifically, the value of an employee’s phantom equity allocation is linked to the fair market value of the percentage of the company sold. For example, in a full value plan, if an employee was granted and vested 5% of the company’s stock price, and the company sold 100% of itself, then that employee would have the right to 5% of the total value of the business sold: 100%. However, under the same conditions, if only 40% of the company is sold, then the employee is only entitled to 5% of the cash value of the 40% sold.
