Life as we know it is changing in large part due to COVID-19 and the events surrounding it. For many closely-held businesses, this is no different. COVID-19 is impacting the valuation process as well.
Prior to March 2020, there was really no effect on the value of a business because the global pandemic was not “known or knowable”. However, in March 2020, the economy began to shut down, and states began to implement stay-at-home orders.
As a result, small businesses saw a decrease in revenue, and many individuals were furloughed or let go. The entire epidemic created a measure of uncertainty and risk, especially for small businesses. As such, a valuation date of March 31, 2020, will yield a drastically different value than a date of December 31, 2019.
So, how does all this impact the value of your small business?
Revenue, Profitability, & Cash Flows
First, business valuation heavily relies on measuring key value drivers. These include revenue, profitability, and cash flow. During COVID-19, most small businesses saw an impact either temporary or permanent. Actual or expected revenues and earnings may have decreased due to closures or a decrease in customer demand. Cash flows may have been strained due to longer turnaround times. When key value drivers decline, a lower business value typically follows.
Potential buyers often rely on the expected economic benefit of the business. This expected benefit is also a primary driver in business valuation.
Because of COVID-19 many businesses took on additional debt to pay employees or other fixed expenses. Whether this was through the Paycheck Protection Program (PPP loan), Economic Injury Disaster Loan (EIDL) or another form of pandemic-related loan. Additional debt decreases the value of a business.
Increase in Risk
The uncertainty of COVID-19 increased the risk of doing business. This is primarily due to the uncertainty of how each business sees an impact. Risk is usually accounted for in discount rates used in the Income Approach and Cash flow Methods. Discounts for lack of control and lack of marketability may increase due to liquidity issues in the market. As risk increases, the business value decreases.
Like an airplane waiting to land, many buyers and sellers are simply taking a wait and see approach. Much of the impact of COVID-19 is still yet unknown, but adjustments to financial performance are most certainly a part of the valuation process. Every situation is unique, and your valuation expert will seek to identify the impact and discuss the resulting adjustments with you during the process.
For businesses who carry long-term assets and goodwill on their balance sheet, these assets have seen an impact because of COVID-19. A decrease in the asset value, may reduce the value of the holding company.
One of the biggest opportunities during economic downturns is estate planning. It is one of the best times to transfer the wealth of closely-held business interests to family members or trusts. COVID-19 and economic downturns in general, present unique opportunities for business owners to take advantage of lower valuations to minimize gift and estate taxes.
Our valuation experts at Peak Business Valuation, a business appraiser in Utah, use their professional judgment and experience to navigate this complex time. We know it has been difficult for many small business owners. That is why we are here to help you understand the value of your business and what steps you can take to increase it. Questions are always welcome! Please reach out via email or schedule your free consultation below!