Business valuation and M&A transactions amid COVID-19

A global pandemic, soaring unemployment, a contracting economy - all contribute to a changing view on how to measure risk when buying or selling a business.

Business valuation has always been a bit of a convoluted art and science but has become even more challenging in recent times. There is no one, right way to determine value because it depends on the entity itself.

Multiples and metrics

A question often asked is what multiple to apply to which metric when calculating the value of a business.

At a high level, the appropriate multiple depends on the business and its risk factors of achieving cash flow into the future. Private company valuations and transactions commonly reference earnings before interest, taxes, depreciation and amortization (EBITDA) as a multiple of enterprise value, hence ‘the multiple.’ Or, how many times of EBITDA compose the enterprise value of the business.

The most common EBITDA references in merger and acquisition (M&A) transactions are:

• The last 12 months of adjusted (normalized) EBITDA
• The last fiscal year’s adjusted EBITDA
• A forward-looking or maintainable EBITDA.

In today’s world, historical results are almost rendered invalid because of the impact of COVID-19 on operations and profits. A private business could have had strong results in 2019 but have been decimated during March and April of 2020.

What’s more critical and relevant is understanding what has changed in the business and what is achievable going forward. And those require another level of analysis.

In considering business value and forward-looking EBITDA: should you adjust or normalize the periods impacted by COVID-19 shutdowns? Or, is the entire business model potentially impacted in the short and long term? There is no right answer, but serious due diligence and analysis must be applied.

EBITDA multiples may be lower in certain businesses, such as restaurants and retail outlets, due to higher risk factors. But equally as important is the EBITDA the multiple is applied to. Overall, the business value should be determined based upon the future EBITDA.

Cash flow and access to capital

The impact of any governmental support or incentives should be assessed and considered in a business valuation. How long will the support be available, what is that going to look like and will it change in a month or two as more companies apply for the funds?

Will the programs be fully funded or not available after a certain date? How will the business perform once the governmental support ceases?

Some businesses are actually thriving in this environment, while others are barely surviving and some will not survive. Many businesses that do survive this period will likely adjust the way they have operated and will look to improve business practices.

For example, some businesses had to effect layoffs and may determine roles and duties can be shifted and shared to reduce the overall labour required; other businesses may develop entrepreneurial ways of completing tasks to gain operational efficiencies.

To each their own

Estate Planning: For those considering estate planning, or potentially transferring the business to children, is now a good time to enact a freeze as the value may be lower (and more beneficial, tax-wise) to due economic factors?

Buyers: Be hyper vigilant in analyzing the results and scrutinizing the future cash flows of the business.

Vendors: Adapting to the new environment will be critical to transform a better business in the future. Change the way certain functions are completed; review your supplier and customer lists; focus on opportunities to make the business stronger following this cycle.

Other considerations

• The increased uncertainty and risk associated with cash flow projections should be accounted for – whether in a reduced forecast and / or lower EBITDA multiple
• The level of diversification in terms of geographical, customer and supplier dependence should be considered in the overall risk profile may become a more common valuation approach

Whether you are considering buying, selling or estate planning: there is no right answer. You have to consider what is right for you, in terms of flexibility, timing and risk. MNP’s experienced Valuations and Corporate Finance teams apply professional judgment, technical experience and a healthy level of skepticism to business valuation and will help and advise you through the process.

For more information, contact:

Craig Maloney, MBA, CPA, CA, CBV

Managing Director, Valuations

902.493.5430

[email protected]