Tech Exit Series - The Tech Company Exit Process: Initial Considerations

5 minute read | March.26.2024

Orrick's Tech Exit Series suggests top tips for tech companies looking towards an exit. Our market-leading London M&A and Private Equity team writes instalments in the series with contributions from specialists across our broader practice.

So Why Sell?

It is important to be clear up front about why you are considering a sale and how it will affect stakeholders, including founders, investors, employees, employee shareholders, customers, suppliers and government stakeholders or regulators. You may have reached this point as a result of long-term succession planning. You may seek new capital, a strategic combination, or liquidity for employees or investors reaching the end of their hold period. Or an inbound opportunistic offer may have sparked exit discussions. In the technology sector in particular, a sale is a typical part of the corporate life cycle, with some companies founded with the goal of selling in the short- to medium-term to a specific trade buyer. Your rationale for wanting to sell is likely to have a significant impact on various aspects of the process, so it helps to consider a possible sale from the perspective of all stakeholders at an early stage.

It is never too early to think about the horizon for an exit. In fact, founders ought to be considering exit scenarios right from the launch of a new business. Whatever the reason for starting a sale process, a successful exit strategy takes a lot of planning. It raises numerous commercial, legal, tax and practical questions that are best addressed as early as possible.

It's All About the Money …

Although there will be various considerations in agreeing a path to liquidity, price is generally the key priority.

Given recent market uncertainties, we have seen an increased number of companies bridge a gap in valuation expectations with a deferred consideration or 'earn-out' structure. Whilst these can succeed with careful structuring, they can be a high-risk approach for sellers and in many cases can significantly reduce certainty of proceeds. Such mechanisms are impractical where the sellers will not have the power post-sale to ensure the deferred consideration / earn out criteria are met. The tax treatment can also be complex, with authorities requiring sellers to pay tax upfront on the right to receive the earn-out in many circumstances.

In most cases, a corporate finance or M&A adviser can counsel a company on the best way to market the business. They can often advise on the right time and stage to market a business to achieve the best result for stakeholders.

Putting the Band Together

Your deal team also will need to include legal, tax and accounting support, which may be in-house but more often is sourced externally. You should not underestimate the resources an exit transaction will consume. Consider whether to take on some additional internal resource or support of consultants to help with what can be a very extensive due diligence process.

Exit Stage Left?

These deals are often called 'exits' but in many cases they are just the next step in developing your business. Where a private equity investor is the buyer, management shareholders are generally required to 'roll' a large part of their shareholdings into the new acquisition vehicle and sign up to a new suite of investment documents, with a view to the next 'exit.'

Even a trade purchaser may settle a portion of the price in buyer equity that may be subject to vesting arrangements. Senior company leaders will generally be expected to sign up to new employment arrangements as part of the transaction.

Closing the Deal

Sellers can receive significant benefits in settling terms up front.  Sellers will usually have maximum leverage before exclusivity has been granted. It will therefore often be advantageous for sellers to agree key deal terms in a term sheet before proceeding to grant a buyer exclusivity.

Transactions typically take at least four to eight weeks from the time the parties settle on a term sheet to the time they sign definitive documents, although the timeline can be shorter in the case of critical timing constraints or a distressed asset. A shorter time period will require both parties to be well organised and resourced to allow diligence to be completed expediently. More complicated transactions or deals with significant diligence or regulatory issues may take longer to reach agreement.

Ideally, the transaction will be closed or completed at the same time the parties sign or exchange definitive documents. However, this may not be possible in deals that requires regulatory consents (such as merger control or foreign investment approvals) or other clearances.

Companies can expedite this process and avoid surprises by preparing draft filings at an early stage, particularly on matters which may require a clearance under the UK National Security & Investment Act 2021 (NS&I). This will be particularly relevant for those current “hot property” target companies who use, develop or research artificial intelligence. In its current form, the UK NS&I legislation defines AI so broadly as to make the sale of most businesses with any “AI” component notifiable.

In future instalments of our Tech Exit Series, we will consider in more detail a number of the issues identified in this article, including appointment of a financial adviser, negotiating term sheets, earn-out structuring and protections, conditions precedent, managing the exit process and impact on management time, issues arising in relation to non-cash consideration and "golden handcuffs/handshakes", as well as other issues of specific interest to technology companies looking towards an exit.

Our London M&A and Private Equity team would be delighted to discuss the application of these issues to your business. If you would like more details on how we can help, please contact Katie CottonJames Connor, or Dan Wayte.