Understanding the concept of Exit Options
Exit Options is nothing but different ways through which investors can ‘cash out’ of an investment. To understand the concept of exit options, let us understand how Venture Capital works.
Angel investors, VCs and Private Equity Funds buy equity in a company when they make an investment. I.e. they buy shares of the company at an agreed price. Let us say they buy 100,000 the shares of the company as a per share price of Rs.100. Investors make this investment NOT to earn dividend but to have substantial gain through increase in the value of the shares that they have bought.
Over a period of a few years, depending on the outlook of the investor, the investor would want to ‘cash out’ of their investment. For this, they will have to sell their shares to someone else. Who all they can sell the shares to are what is called the exit options.
Typically, there is a hierarchy of exit possibilities. i.e. angel investors, who invest in the earliest stage of the company, typically seek an exit by selling their shares to VCs who invest when the company’s concept and business model is proven. Often VCs would get complete or partial exits by selling shares to another VC who invests in the company after the company has gained some traction and needs further capital to scale up.
In addition to selling shares to the next round of investors, the following exit options are available:
- Sale to a strategic partner e.g. a travel services company may sell stake or be acquired by a large travel portal
- Sale to a bigger brand in the space: e.g. a local online food ordering site may be acquired by a global brand when they want to enter that market
- Of course, going IPO is an aspirational exit option for many
- Buy back: When the promoters or company buys back the shares of the investors. This is the least preferred option for investors and is usually used when the company is not able to provide any other exit option to the investors.
Do entrepreneurs have to exit along with the VCs