The first major multiday, multitrack conference of the year, the NACVA and the CTI’s 2020 Business Valuation and Financial Litigation Super Conference, was held online over five full days in June. Business Valuation Update attended, and we found excellent speakers and interesting sessions, and the technical details all went smoothly. COVID-19 was a hot topic of discussion in a number of the sessions, so, here we present 10 takeaways on dealing with the pandemic’s impact on business valuation.
- ‘Known or knowable’ perspectives. The impact of COVID-19 is “very regional” and its impacts vary by industry, so a subject company needs to be examined from those perspectives, points out a panel during the first of two “Hardball With Hitchner” sessions, moderated by Jim Hitchner (Valuation Products and Services). Colorado-based Ron Seigneur (Seigneur Gustafson) pointed to early March as when awareness set in, and Chris Hamilton (Arxis Financial Inc.) agreed but noted that, in Southern California, where he’s based, it was known back in late 2019, but the panic began in early March with the lockdown (he says it’s the panic that concerns him more than the virus itself). Mark Kucik (The Kucik Valuation Group LLC) says that late January was a key point in time—that’s when the Trump administration blocked entry to the U.S. from anyone who has been in China.
- Know your audience for Monte Carlo. An attendee said that he now uses more Monte Carlo simulation in his valuations. That’s fine, if time and budget allow for it, notes Seigneur, but will the audience understand it? Be careful in a litigation setting because, while some courts are familiar with Monte Carlo (such as federal or bankruptcy courts), others (such as family courts) are not.
- Think about scenarios. We hear that auditors are now looking for more scenario-based analyses in the valuations they examine. Typically, this involves a base-best-worse case analysis and then a weighting for each. Hitchner is using a two-scenario approach based on a 50% chance that the virus will resolve quickly and a 50% chance that it will not.
- Focus more on economy and industry. In the past, users of valuation reports may have glossed over the economic and industry portions of a valuation report, but not anymore. Experts stress that the impacts of the pandemic are very industry-specific and, of course, will be dependent on the economic recovery as a whole. Now more than ever with COVID-19 ramifications, a reliable economic section in your valuation report is crucial. Vertical IQ and the Economic Outlook Update are both reliable sources for these sections.
- Some business is doing well. Not all companies are being negatively impacted by the pandemic, points out Kucik (think Zoom, for example). But be careful and don’t assume that a spike in business will last—dig into what is really going on. Is it simply a shift in demand (e.g., stockpiling) that will even itself out? Or did the business reinvent itself to some extent so that it will come out stronger than before? For example, a firm may have ramped up its e-commerce capabilities so that it is better positioned to deal with some new level of normalcy.
- Good timing for estate valuations. Yes, valuations for estate tax purposes may be lower during the pandemic, but, again, you need to determine whether the negative impacts are temporary or long term, says Kucik.
- Consider alternative market-based methods. In his session, Daniel R. Van Vleet (Griffing Group) offered alternative market-based methods to consider for valuation dates occurring after mid-February. For the guideline M&A method, here is one alternative to consider if the purchase price of the target reflects the impact of COVID-19 (affected purchase price) but the earnings used in the calculation of multiples do not (unaffected earnings):
- Calculate the multiples based on the affected purchase price and unaffected earnings of the target. This calculation will provide the affected M&A multiples.
- If COVID-19 has affected the earnings of the subject company (affected earnings), adjust the affected earnings to quantify the unaffected earnings of the subject company.
- Apply the affected M&A multiples to the unaffected earnings of the subject company to estimate the value of the subject company as affected by COVID-19 (COVID-19 value).
- Maintain professional judgment. Speaking of company-specific risk, no magic formula or computer algorithm can determine reliably with precision the unsystematic risk in a privately held company. Valuation is not a branch of applied mathematics, points out Dr. Michael Crain (Florida Atlantic University), so professional judgment must be maintained. Dr. Crain did a session on BVR’s Cost of Capital Professional platform for developing a cost of equity capital estimate, which he wrote. In the COVID-19 era, many experts say to spend more time on the numerator (cash flows) of the valuation equation and less time on the denominator, which includes cost of capital. The platform uses a simple approach that will help refocus your attention on where it needs to be.
- Capital structure is not static. Be aware of changing capital structure when doing a cost of capital analysis, says Grabowski. Especially during the pandemic, some companies may have added debt to raise cash, but those debt levels will not continue long term.
- Don’t ignore other major impacts. While COVID-19 grabs all the headlines, it’s not the only major development that will have potential impacts on valuation, Hamilton points out. These include the Fed buying up corporate bonds, the upcoming elections, and low interest rates.
For a complete list of COVID-19 takeaways from the NACVA Conference, download the article "25 Tips on Dealing With COVID-19 From the NACVA Conference," from Business Valuation Update, a monthly newsletter that includes new thinking from leading professionals from around the globe, detailed reports of the latest news in the profession, analysis of new business valuation approaches, brief analyses of important court cases, tips from the field, data summaries, and more.