BVR Logo 1 September 2020 | Issue 18-1

BVWire—UK is a free service from BVR focusing on the business valuation profession in the United Kingdom. We offer news and perspectives from valuation thought leaders, the High Courts, HMRC, the standard-setters, ICAEW, RICS, and more.

Please be in touch with your perspectives, news, and ideas—and pass this issue along to colleagues (complimentary sign-up instructions are here).


What do KPMG and BDO have to say about current valuation and forecasting approaches?

COVID-19 dominates a lot of the discussion in the latest edition of KPMG’s 3Q2020 International Valuation Newsletter (IVN), though, as editors Johannes Post and Rolf Langenegger note, it ‘is not the only issue.’ BVWire—UK readers looking for a good summary of the effects the pandemic has had on UK and global markets should turn here, even though the effects on private companies, the LSE, and other markets are now familiar to everyone.

The new issue reviews many key focus areas of valuation (share prices, analyst consensus forecast estimates as well as beta factors by sector, and the various scenarios for recovery). At the center is the performance of FTSE during the crisis—down 32.8% in February and March, and back up 23.5% by June 20, where, along with the EURO STOXX 600, it remains the overall weakest performing major index.

This issue of IVN also offers business valuers some solace as it summarises the key challenges when implementing various valuation approaches in the context of today’s challenging environment.

Even the most sophisticated and widely-accepted valuation approaches, with the most detailed valuation analyses, undoubtedly, will struggle to eliminate the uncertainty of their results in an environment like today’s. However, the appropriate application of valuation methodologies and approaches should include sufficient details of the underlying process with the goal of increased transparency, thus allowing the audience of the valuation analysis to form their own view and have a more solid basis upon which a decision can be made.

Unlike ‘normal’ times, KPMG particularly notes the impact of interest rate drops on current risk-free rates for major currencies with Germany experiencing negative interest rates again, and changes in country risk premiums, particularly for Brazil and India, have increased. Further, KPMG warns valuation experts that differences in financing structure that might not be material in the past must now be reviewed because ‘debt leverage is increasing substantially and the cost of debt is increasing as well.’

Meanwhile, the BDO Valuation and Business Analytics Practice has published the findings of its new ‘The Path Ahead’ study, examining over 20,000 equity analyst estimates for 428 public companies spread across 24 industries. This is a great resource for financial experts who need to document their assumptions about the UK’s recovery trajectory, particularly now when analyst estimates have been even more volatile than equity prices.

What factors contribute to inconsistent business valuation multiples?

Three professors at the Leipzig Graduate School of Management reviewed 1,149 recent private equity cross-border transactions to determine the consistency of the business valuation metrics. The study from Benjamin Hammer, Nils Janssen, and Bernhard Schwetzler’s ‘Cross-Border Buyout Pricing’ confirms the impact of a number of factors influencing both the size of the multiples paid and their standard deviation. Understanding these factors may influence certain conclusions of value UK business valuers reach.

The authors clearly struggled to derive a usable dataset for their study. First, they reviewed EV/sales multiples from the small subgroup of deals recorded in Zephyr that have reliable EV numbers. Sales figures and acquirer characteristics were derived from Bureau van Dijk’s Orbis database. This resulted in a dataset of 1,149 transactions, out of approximately 10,000 private equity or leveraged buyout deals total during the period from 1997 to 2010 (more current transactions did not have complete financial details). For this entire set, the mean EV/sales was 1.96, with a standard deviation of 2.53. EV/EBITDA meanwhile had a mean average of 9.05 for the even smaller subset that reported these multiples.

The Leipzig professors note that, despite the huge capital flows from the global PE firms these days, the ‘opacity’ of private capital transactions has largely shielded them from view (this fact should be taken into consideration as BT now considers privatisation options).

Highlights of the new study include:

  • Foreign buyers pay more than domestic buyers, and the values are less consistent. The authors attribute this finding to informational disadvantages of foreign acquirers. ‘As a result, foreign PE firms face latent risk of overpayment, especially when they are used to a domestic track record and fail to adequately price in foreign market threats as well as cross-border-related transaction costs.’ The dimension of these ‘pricing errors’ is huge; the authors found a 25%-to-37% higher EV/sales multiple from foreign PE buyers, compared to domestic ones.
  • Similarly, ‘the spread in valuation multiples becomes smaller when the target operates in a country with high accounting standards.’
  • Companies that were publicly listed prior to the buyout have a smaller valuation multiple spread than unlisted companies.
  • Larger companies also have smaller valuation multiple ranges than smaller companies potentially because they’re more capable of producing complete financial and corporate information.
  • The pricing spread is significantly reduced ‘when foreign PE firms involve a local partner through syndication,’ presumably due to better local knowledge.
BV experts may not be back in court for contentious valuations—yet

As UK courts begin to open again, the current government rule requires barristers and solicitors under mandatory 14-day isolation (if they’ve travelled to high-risk countries) to turn up to court if they have a hearing. Legal groups, including the Law Society, are campaigning to eliminate this exemption on public health grounds. Law360 quotes Law Society president Simon Davis on the ‘significant danger to court users’ caused by allowing lawyers—and their business valuer experts—to break quarantine. ‘If this results in an outbreak, courts which urgently need to be operating will have to shut down— damaging the government’s court recovery plan and adding to the ever-increasing case backlogs in our justice system,’ Davis said last week.

Given the fact that some courts (such as the Manchester Crown Court) have had to shut down again due to positive tests, the Law Society expressed doubts about HM Courts and Tribunals Service’s court recovery plan. They specifically mentioned bias potential in the plan, in particular for:

  • Criminal defense firms that are already overstretched and could struggle to provide adequate representation as some courts extend their hours to catch up; and
  • Courts attempting to leave lockdown in areas where infection rates remain high, since the communication systems may not be able to alert court users of potential outbreaks or safety concerns. (The Law Society is recommending that risk assessments—including reference to any confirmed recent COVID-19 cases—should be readily available for all court users as soon as they request it.)

The exemption was created just a month ago after it was noted that lawyers who attend overseas court hearings requiring the two-week isolation could put their clients at a disadvantage by not being allowed to appear before reopened courts.

The government makes a huge bet on UK business productivity research

A new £32m Productivity Institute (PI) headquartered at the Alliance Manchester Business School will boost groundbreaking research to explore how to increase productivity, boost wages, and support the economic recovery across the UK. Funding for the Productivity Institute is being delivered through the Economic and Social Research Council (ESRC), part of UK Research and Innovation and through its Strategic Priorities Fund.

The new Productivity Institute is being funded by £26m from ESRC and £6m from Alliance Manchester Business School and its partner institutions for five years, from 1 September.

This is the largest economic and social research investment ever in the UK, as part of the country’s continued economic recovery from the COVID-19 pandemic.

At the same time, ESRC announced the launch of the Programme on Innovation and Diffusion (POID). ESRC will provide £4 million of the funding for the POID, with an additional £1 million provided by the London School of Economics.

PI’s mission is to increase productivity, remove barriers, boost wages, and support the economic recovery. Initially, over 40 researchers from leading UK institutions will work with the government and business leaders on issues that impact productivity, such as diversity, remote labour, and workers’ well-being.

Economist Professor Bart van Ark of the Alliance Manchester Business School will lead the initiative, which includes eight partner institutions (University of Cambridge, the National Institute of Economic and Social Research, University of Glasgow, University of Sheffield, King’s College London, Queen’s University Belfast, Cardiff University, and University of Warwick).

Professor Dame Nancy Rothwell, president and vice chancellor of the University of Manchester, said, ‘[T]his is a landmark investment by the government. It demonstrates how serious the government is about solving the UK’s productivity puzzle and importantly, it signals a commitment to help create an economy that works for everyone, with growth that is sustainable, inclusive and regionally distributed.’

The Productivity Institute will also collaborate with the Economic Statistics Centre of Excellence (ESCoE) and with organisations outside of the UK, including the Organisation for Economic Co-operation and Development (OECD) in Paris. A programme of regional engagement with policymakers and business leaders as well as HM Treasury, BEIS, the CBI, and others is also included.

Leigh Miller says valuation ‘ranges’ still raise questions with auditors, even during COVID-19

Using multiple forecast scenarios has been a commonly practiced approach to market volatility—and many UK business valuers are now saying that it should be used more widely. This doesn’t necessarily mean that the ‘range’ of scenarios should be any wider, even now, says Leigh Miller.

‘I don’t preclude that an outlier might require a larger range … but the answers to the “why” question explaining a wider range need to be very clear,’ he said. Given the expertise of most business valuation professionals, audit committees still need a number for presentation, and ‘I hope the business valuation profession is still prepared to get as close to one as possible.’

Are there any sources that help with scenario planning for cash flows? Most experts BVWire—UK talked to say simply that valuers need to turn to their peers. ‘We can’t pull scenario expectations from an Ivory Tower. The only way is to poll the market, or to find someone else who has,’ one reader told us.

Very few businesses have had the charge to do this kind of careful scenario analysis, another noted. ‘The role of the expert will now often be as a catalyst to start this kind of planning’ and to determine the scope of the work and testing required to analyse the quality of the underlying cash flows. Overall, this trend is likely to increase the demand for qualified business valuers.

Dates for your diary

9-11 September: BVR/AAML Virtual Divorce Conference, virtual event

16-17 September: ICAEW Advanced Valuation Techniques, 9:15-12:30 BST both days, virtual event

28 September: IVSC Advisory Forum Working Group public meeting, virtual event

5-12 October: IVSC AGM 2020, virtual event

11-13 October: American Society of Appraisers International Conference, virtual event

30 October: ICAEW Excel Modelling—Investment Appraisal, Valuation and Business Cases, virtual, 9:15-12:30 BST (repeated live 4 December)

29-30 October: EACVA 14th Annual Business Valuation Conference, Munich

Want to share a news item? Have feedback or comments? Please contact
David Foster at ukeditor@bvresources.com.


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