The news is full of negativity, be that due to COVID itself or the impact COVID is having on the UK economy, one would therefore assume that business valuations must ALL have also been negatively impacted by COVID.
Is it therefore all doom and gloom………? Absolutely not.
As in most cases, there will be winners and losers, but good progressive businesses will remain valuable, possibly even more so in the current climate. On the flip side, ‘me too’ businesses may find that demand from trade buyers and private equity is more limited.
When looking at valuing a business, there are generally three key constituents to understand in arriving at an Equity Value:
- What is the underlying earnings of the business now and in the future;
- What multiple should be applied to those earnings; and
- What is the net cash / debt position of the business.
For the majority of companies, earnings have typically seen a sharp fall in April, May and June with somewhat of a recovery from July onwards. This profile suggests that the COVID impact is (on the whole) a temporary impact on earnings and a pro-forma ‘earnings’ for the COVID period could be substituted, leading to the fabled EBITDAC metric.
From a multiple perspective, the impact of COVID on the sector dynamics both now and in the future is likely to have a bigger impact on valuations. Questions such as: Is there a % reduction or expansion in sector GDP anticipated? Has there been a paradigm shift in operating models?
Moving on to the business itself within the sector, are supply chains robust and fit for purpose? How much working capital does the business require going forward? What is the potential exposure for bad debts and business failures in the customer base?
These are not unusual questions to ask when looking at business valuations, the issue is the answers are a little less forthcoming in today’s climate.
The focus on the above questions clearly suggests more uncertainty and uncertainty tends to lead to ‘prudence’ in the valuation world.
There are essentially less businesses around where both buyer and seller are aligned as to the future trading potential of a business, hence valuations are now more than ever highly judgemental and with no single right answer.
For most business valuations in the near term, I would anticipate that EBITDAC will be a well-accepted metric, but it will not apply to all sectors. Those businesses that have been impacted negatively by COVID, not recovered quickly and with a business model that remains exposed to any future (or ongoing) pandemic may indeed find both earnings and multiples lower, but more importantly will find less ‘buyer’ interest overall.
It has always been the case that strong management teams, contracted recurring revenues generating high margins and with a strong future outlook are all attributes that underpin high valuations. It is no different now and those businesses that ‘tick’ the box should anticipate more interest and attract premium multiples with or without COVID.
For any further information on the content discussed in this blog, please make sure to get in touch with our Corporate Finance partner Andrew Feeke on 0161 519 5050 or firstname.lastname@example.org