Scenario planning is important to help clients come up with a matrix in terms of the duration of the pandemic and its impact in the short-, medium- and long-terms (Getty Images/Marco VDM)
Valuation has always been an intricate balancing act—a sophisticated mix of art and science. But when you factor in a crisis like the one we’re currently facing, things can get even more complex. How do you gauge a company’s worth when the whole economy seems to be shifting beneath your feet?
Fortunately, there are a few visible trends that are driving valuations right now, and these can help CPAs advise clients when it’s the right time to sell or otherwise exit.
1) TIMING IS EVERYTHING
After a major dip in March and April, merger and acquisition activity is now beginning to pick up, albeit not yet to previous levels. As CPA David Lam, CBV and president of Deloitte Canada Corporate Finance Inc., points out, there are a few unknowns—such as the results of the U.S. election or a possible second pandemic wave—that could swing the markets. “I think a lot of people are holding off until they have some clarity,” he says.
Lam adds that valuators generally look at public comps (similar deals in a sector) as a point of reference when doing their work and, right now, there are not that many. “We are caught in a strange cycle—a turbulent turning point. And we need time for valuations to stabilize,” he says.
2) ACTIVITY IS SECTOR-SPECIFIC
At the moment, there is a huge divide between sectors that have been negatively affected by the downturn (such as hospitality) and those that are poised to take the economy out of the crisis, such as telehealth, consumer tech, health care, fintech, logistics and transportation, and e-fulfillment.
“Since online purchasing has increased so much, valuations are really high for businesses that are digitally enabled or based on direct-to-consumer e-commerce,” says Lam. “Also, many companies are realizing right now that they have to accelerate their digitization strategy, so they are willing to pay a premium for a company that will allow them to fast-track the process.”
3) PREDATORY BEHAVIOUR IS DRIVING DEALS
Business owners thinking of selling need to assess whether this is the time to do so, says CPA Liisa Atva, CBV and author of The Ask: How Much is a Small Business Worth? “While many buyers may want to take a wait-and-see approach, there will be some that are looking for a good deal,” she says.
Lam agrees. “A lot of strategic buyers see the current crisis as a potential opportunity to pick up assets at depressed values,” says Lam. “It’s often the assets they buy just after a downturn that produce the best returns.”
4) ACCESS TO BUYERS—AND CAPITAL—IS KEY
While valuation is largely driven by financial performance, access to buyers is also key.
“Because of the current border closure with the U.S., Americans cannot come over to do a site tour or meet with management,” says Lam. “And taking American buyers out of the equation restricts your buyer universe.”
Access to capital is also important. “Even if management buys the business, they will probably need to finance the purchase,” says Richard Ginsberg, FCPA, FCA, FCBV, chief valuator and chief operating officer for Deloitte Canada’s financial advisory group. “You probably want advisers who have a network that can connect you to all the liquidity options available and improve the confidence level of your decision.”
5) IS THAT TEMPORARY OR PERMANENT?
When assessing results, it’s important to distinguish between timing impacts and permanent impacts, says Ginsberg.
“When COVID first hit, toilet paper retailers saw their results spike. But then sales fell again because everyone had already stocked up. That’s just a timing difference and you would normalize for that. But, if you were an entertainment venue, you will never be able to replace the revenue you would normally have earned over the past months. That is a permanent loss.”
6) HOW RESILIENT IS THE BUSINESS?
A business owner’s ability to pivot and adapt to changing circumstances can weigh heavily in a valuation, says Atva. “We don’t really know what the new reality will look like, so any effort a business has made to develop new sources of revenue, contain costs, diversify their sources of supply or otherwise change their business model can be critical.”
Ginsberg agrees. “When COVID first hit, there was a lot of uncertainty because the market didn’t really appreciate how resilient businesses were. Uncertainty equals risk, and risk drives down values. Now, resiliency has become an important part of the value equation.”
7) FOCUS ON SCENARIO PLANNING
Right now, values are being driven more by forward-looking information than historical information, says Ginsberg.
“It’s not about what the results looked like before COVID-19, but rather, in light of COVID-19, what they are going to look like,” he says. “That’s why we are encouraging our clients to work through scenarios. That allows them to come up with a matrix in terms of the duration of the pandemic and its impact in the short-, medium- and long-terms. The process is time-consuming and expensive, but it’s necessary.”
8) ANALYZE YOUR OPTIONS
An owner could have many exit options and it’s important to weigh the costs and benefits of each, says Ginsberg. For example, they could pass the business on to family members or management; sell it to private equity, a strategic competitor or an integrated purchaser; do a vendor takeback (where they effectively lend money to the purchaser); or hold on until the business is ready.
Ultimately, though, the decision will hinge on the owner’s objectives. “If they just need quick access to liquidity, they might decide to sell to management rather than going through a marketing process. A CPA can help them decide what’s best for them right now.”
STAY IN THE LOOP
Want to learn more about the principles, methodologies and approaches used in business valuation? Check out CPA Canada’s guidelines (a new version will be available later this year) and other related resources. Also, find out what small businesses can do to survive and pivot in the current crisis.