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How COVID-19 Has Affected Business Valuations

COVID-19 has impacted almost every part of the business world, and business valuations are no exception. While some companies have seen current revenues plunge, others have thrived under market conditions. Let’s uncover not only how COVID-19 has contributed to these changes, but also what your business can expect from the next valuation.

Historical Data is Less Relevant

Whether you’re seeking a valuation to determine a going rate for your business, for tax purposes, to secure debt, or any other reason, valuing your business will look different this year than any other year prior, and that’s because – in part – COVID-19 has made historical data less reliable.

In the past, many valuators have performed financial statement analyses using historical financial data. With that data, they quickly and easily estimated future revenues. However, depending on how the pandemic impacted your business, historical data may not accurately indicate future performance. The marketplace has changed dramatically in the last year and a half, and valuators must consider more than just historical data.

READ MORE: The Value of a Small Business Valuation

New Forecasting Models are Necessary

While most business owners understand that projections can be complex in the best of times, COVID-19 has made it even more challenging, and valuators will likely need to use different projection models than they have in the past. Valuators may even need to prepare multiple different projections at once, using different data inputs in each model. As coronavirus threats change course, they can pivot to the model that is most accurate. Be prepared to provide your valuation team with more information than you have in the past so they can get the most accurate picture of your business possible.

Increase In Due Diligence

In an uncertain market, valuators must take more time to research and understand a business before assigning a valuation. This is most evident when you look at the mergers and acquisition (M&A) market.

It is increasingly rare for buyers to purchase from sellers unless they have conducted due diligence on every aspect of their business. In addition to the financial statements, buyers may look at a business’s:

  • Asset values
  • Revenue streams
  • Information technology
  • Insurance coverage
  • Products
  • Customer information
  • Relationships with third parties
  • Supply chain
  • Marketplace threats
  • Tax exposure
  • Licenses and permits
  • Employee turnover
  • Internal controls
  • Compliance

Depending on the purpose of the valuation, valuators may not look at everything in the list above, but they will want to review enough of the business to both (1) understand how well the company performed during the pandemic, and (2) see if their current business model is sustainable, so be prepared for your valuation team to take a deep dive into your business operations.

READ MORE: Here’s Why You Need a Business Valuation

The Market Has Shrunk

COVID-19 has simultaneously decimated some industries and boosted others. The result? The market is filled with buyers looking to buy high-quality businesses in a sea of under-performing organizations.

Buyers who are flush with cash have few high-quality sellers to choose from, and sellers know this. High-quality sellers know they can request a premium for their businesses. In the M&A market, this may result in a higher selling price, but when valuations are performed for other purposes, the valuation team may not come to the same valuation number. If you’re pursuing a business valuation, ask your team if they take market premiums into account.

Economic Considerations

Public fears, government restrictions and other economic factors will likely affect your business valuation. For example, some companies may have:

  • Reported a decrease in revenues due to lower customer demand
  • Increased their debt to pay employees when revenues dropped
  • Accepted government support to keep up with debt payments

And your outcome may also be affected by where you are located. State COVID-19 regulations and tax incentives vary by state, both of which have the potential to impact the financial health of your business. For example, some businesses received low-cost loans from state or local governments in addition to federal programs that were offered, giving them a better chance at weathering the storm. Your valuator will take all these economic conditions into account when determining business value.

READ MORE: Is Your Buy-Sell Agreement up to Date?

Cash Flow Is More Important Than Ever

While cash flow data has always been important for business valuations, it has become vital during COVID-19. Cash usage rates and a company’s cash balance are more closely monitored than ever before. Valuators are looking to see how well businesses manage their cash in the current economic climate.

For example, let’s think about a business that has seen an increase in operating expenses and a downturn in revenue. Valuators want to know that the business can manage its cash flows, even when it’s struggling. By reviewing their cash flow statement, they can see where their daily cash is coming from. If their cash flow is largely dependent on government subsidies or incentives, their valuation is likely to take a hit until they can reverse their revenues and expense trajectories.

Business Valuations Will Change, and That’s OK

Business valuations cannot be postponed, even during a pandemic, so business owners should prepare themselves for a change in the valuation process. If you have questions about how your business valuation will change this year or if you need a valuation, contact us soon.