Valuation

Distressed Business Investments amidst the Coronavirus Pandemic

The coronavirus pandemic has wreaked havoc globally on a big scale. The COVID-19 threatens lives while the measures required to stop its spread threaten livelihoods. The combination has forced numerous businesses into financial distress and will continue to impact businesses for months to come.

Due to this pandemic, there are three categories of firms available for transactions: firms that have advantaged from the crisis (value likely to be up), those that were healthy before the pandemic and are now distressed, stressed, or shot down (value likely to be down), and firms that were distressed or teetering per-pandemic and are now even worse off (value going down even further).

Since the coronavirus crisis and the resulting distress aren’t size-specific, industry-specific, or geographically restricted, private equity investor of every type on the buy/sell-side of M&A transactions need to come up with a high-pressure, high-risk period in an economy so distinct that it is not possible to predict precisely based on previous recessions or historical models. Even as the market has flipped from fierce competition for fewer deals and seller’s market of high valuations to a buyer’s market of more deals at fewer valuations, a large number of deals will be distressed. For deal makers who are accustomed to healthy company transactions, the idea of distressed investment offers big opportunity, but also a big challenge.

Distressed investment is to healthy company investment as sprinting is to marathoning. While both of them are running races, they have very non-transferable and unique characteristics and requirements to compete effectively. Just like a marathoner isn’t likely to do well in a sprint without substantial support and preparation, a healthy company investor diving head-first into the distressed M&A market is likely to find themselves struggling to keep up and without sufficient risk mitigation. But those that have the power to adapt to this new normal will have opportunities for substantial returns.

Can the Business Adapt Quickly to Survive?

As the business emerges from its immediate crisis, distress creates the chance for an investor to get it right. After developing a deep understanding of how the business got to the condition it is in, you’re in a position to pinpoint what can be changed to improve performance going forward. The immediate to-do list should comprise an analysis of the company’s days payable outstanding (or DPO), vendor contracts, historical liabilities, capital structure, workforce, days sales outstanding (or DSO), pricing, customer base, structure, along with shedding of non-money-making/non-core locations, units, and assets. While forecasts are challenging today, business fundamentals remain. More money has to come in than goes out; it’s typical that 20% of the revenue generates 80% of the profit, and bet on good management every time.

When it comes to predicting the capability of a distressed business to survive and eventually thrive in the long-term, investors usually look backward by challenging every line on the income statement and the balance sheet and look forward based on consumer-trend and economic forecasts. No one has a clear picture of how consumers will behave once a reliable forecast is available, and mandates are lifted, thanks to the uncertainty that the coronavirus pandemic has injected into today’s market. It has become important for the long-term viability assessment to challenge every assumption about the behaviors of the consumer in the same way that the historical analysis has always challenged all the line items within the financials. Will customers return to restaurants and stores, or will the coronavirus pandemic-driven migration to online sales change the retail landscape irreversibly? Will people return to hotels, airplanes, and face-to-face interactions, or have they become so accustomed to digital interactions that those sections will never return to the pre-2020 levels?

Plus, demand is not the only uncertainty. It is important to question the assumptions around supply too since you aren’t dealing with just a single faltering business, but with whole faltering industries. Look at the whole supply chain, from distribution to facilities to parts, and factor in where supplies are coming from – are they being produced somewhere abroad, where production could be closed even as the US opens again?

Business managers and investors who get the answers to questions like these right will be the ones who are positioned to succeed in the upcoming years.

Interested in certified business valuation or selling a distressed business in Houston? Let TruView Business know.

How Does Your Business Compare?

When considering the value of your company, there are basic value drivers. While it is difficult to place a specific value on them, one can take a look and make a “ballpark” judgment on each. How does your company look?

Value Driver	Low	Medium	High
Business Type	Little Demand	Some Demand	High Demand
Business Growth	Low	Steady	High & Steady
Market Share	Small	Steady Growth	Large & Growing
Profits	Unsteady	Consistent	Good & Steady
Management	Under Staffed	Okay	Above Average
Financials	Compiled	Reviewed	Audited
Customer Base	Not Steady	Fairly Steady	Wide & Growing
Litigation	Some	Occasionally	None in Years
Sales	No Growth	Some Growth	Good Growth
Industry Trend	Okay	Some Growth	Good Growth

The possible value drivers are almost endless, but a close look at the ones above should give you some idea of where your business stands. Don’t just compare against businesses in general, but specifically consider the competition.
As part of your overall exit strategy, what can you do to improve your company?

© Copyright 2015 Business Brokerage Press, Inc.

Photo Credit: kconnors via morgueFile

How Does Your Business Compare?

When considering the value of your company, there are basic value drivers. While it is difficult to place a specific value on them, one can take a look and make a “ballpark” judgment on each. How does your company look?

The possible value drivers are almost endless, but a close look at the ones above should give you some idea of where your business stands. Don’t just compare against businesses in general, but specifically consider the competition.
As part of your overall exit strategy, what can you do to improve your company?

© Copyright 2015 Business Brokerage Press, Inc.

Photo Credit: kconnors via morgueFile

Valuing the Business: Some Difficult Issues

Business valuations are almost always difficult and often complex. A valuation is also frequently subject to the judgment of the person conducting it. In addition, the person conducting the valuation must assume that the information furnished to him or her is accurate.

Here are some issues that must be considered when arriving at a value for the business:

Product Diversity – Firms with just a single product or service are subject to a much greater risk than multiproduct firms.

Customer Concentration – Many small companies have just one or two major customers or clients; losing one would be a major issue.

Intangible Assets – Patents, trademarks and copyrights can be important assets, but are very difficult to value.

Critical Supply Sources – If a firm uses just a single supplier to obtain a low-cost competitive edge, that competitive edge is more subject to change; or if the supplier is in a foreign country, the supply is more at risk for delivery interruption.

ESOP Ownership – A company owned by employees, either completely or partially, requires a vote by the employees. This can restrict marketability and, therefore, the value.

Company/Industry Life Cycle – A retail/repair typewriter business is an obvious example, but many consumer product firms fall into this category.

Other issues that can impact the value of a company would include inventory that is dated or not saleable, reliance on short contracts, work-in-progress, and any third-party or franchise approvals necessary to sell the company.

© Copyright 2015 Business Brokerage Press, Inc.

Photo Credit: DuBoix via morgueFile

Two Similar Companies ~ Big Difference in Value

Consider two different companies in virtually the same industry. Both companies have an EBITDA of $6 million – but, they have very different valuations. One is valued at five times EBITDA, pricing it at $30 million. The other is valued at seven times EBITDA, making it $42 million. What’s the difference?

One can look at the usual checklist for the answer, such as:

• The Market
• Management/Employees
• Uniqueness/Proprietary
• Systems/Controls
• Revenue Size
• Profitability
• Regional/Global Distribution
• Capital Equipment Requirements
• Intangibles (brand/patents/etc.)
• Growth Rate

There is the key, at the very end of the checklist – the growth rate. This value driver is a major consideration when buyers are considering value. For example, the seven times EBITDA company has a growth rate of 50 percent, while the five times EBITDA company has a growth rate of only 12 percent. In order to arrive at the real growth story, some important questions need to be answered. For example:

• Are the company’s projections believable?
• Where is the growth coming from?
• What services/products are creating the growth?
• Where are the customers coming from to support the projected growth – and why?
• Are there long-term contracts in place?
• How reliable are the contracts/orders?

The difference in value usually lies somewhere in the company’s growth rate!

© Copyright 2015 Business Brokerage Press, Inc.

Photo Credit: jeltovski via morgueFile