Preparing Your Early Stage Company for an Exit

Are you ready? Lyrics from the song of the same name – by Pacific Gas & Electric (circa 1970)

So, I tend to blog about recurring items I see in our practice.  In this case, over the last few weeks, we have been approached by a couple of early stage companies entertaining Letters of Intent to be acquired.  While these are exciting opportunities to monetize those long hard hours, I can’t tell you how much I wish these entities had embraced the lyrics from this rock classic.  The absence of the most basic information has left their advisors “hogtied” and unable to help.  Of course, the owners wanted to be responsive to points raised by the potential purchasers, yet they and we were ill prepared to address even the most rudimentary of concepts because some standard housekeeping had not been done.  Now, trust me, I am not crying over the need to have pristine records available for due diligence.  I am talking about basic information that can seriously impact the economics of a deal.  Some examples will help to explain:

  1. No tax returns prepared for the last 2 – 3 years.  Forget the compliance issues.  Both of these companies appear to have significant losses which may allow us to structure a potential deal as an asset sale (which the buyer wants) with a similar tax impact as a stock sale (which the seller wants.)  But, we can’t even approach this without knowing about tax operating loss numbers and you need tax returns to figure that out.
  2. No assessment of state tax exposure.   What states are the sellers doing business in?  Is the product taxable?  What is the tax exposure?  These are all good questions that we and the potential buyer would like to know the answers to.
  3. No Delaware franchise tax filings for 3 – 4 years.  In layman’s terms, one of the seller’s first representations is that they have a corporation in good standing and these delinquent filings mean they do not.
  4. Equity nightmare.   Options and stock grants without support; unfulfilled promises to employees for ownership – are they valid claims and at what price?  Is there a potential tax to the employee and what is it?  Grants with no valuations – a tax and accounting nightmare.

So, what is the lesson boys and girls?  You do not need to have all your ducks in a row.  But, most of these items could have been addressed along the way.  It would have cost a little money, but both companies will pay now in terms of deal terms and one deal may not get there because of these issues.  For example, the DE franchise tax can be filed online in less than an hour and the tax is probably less than $700 per year.  Working with a CPA or financial advisor, you can at least identify issues and work through fees.  You do not need an audit each year.  We work with emerging companies on such matters all the time.

So, please, do not be penny wise and pound foolish.  Be prepared to say you are ready when that offer comes across your desk.

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