The coronavirus (COVID-19) has resulted in significant public market losses, as reflected in daily stock market gyrations and volatility. Private companies, asset and debt values have equally been affected by the pandemic as investor appetite for riskier, illiquid investments is materially impacted in these conditions. For Companies, as well as High Net Worth families and individuals, certain strategies can provide a silver lining amidst the tough news and provide long-term benefits when valuations rise again.
For many private holdings, COVID-19 will provide some downward impact on value. This can result from significant disruption in operations, revenue/margin drop off, challenges in accessing capital, slower growth and delayed exit timelines. Certain direct impacts can already be seen as the market for secondary sales has started to shrink. Another immediate impact is revision of near and medium-term cashflow projections.
What’s Different? COVID-19 is a “Material Disintermediating Event”
For valuation purposes, we often consider past performance when looking at value. This can include recent financing rounds or historical financial performance of a company and market transactions/sales of companies. However, COVID-19 is a “material event” which can disrupt the assumption that historical data points are presumptively the foundation of the future. This triggers the need for a fresh look to consider the value of a company in light of its prospects in current and future economic circumstances.
Factors that Are Impacting Valuation
There are few companies that have escaped any impact from the current economic conditions and uncertainty, even if operations have not yet been directly affected. Some key factors that are driving shifts in value include:
- Cash Crunch: Increasing risks and delays around access to needed capital and possibly company survival
- Outlook: Near, medium and longer-term changes in forecasts and growth rates; in some cases, a major rethink of a company’s business model and prospects
- Exit Delay: Material delay in planned exits, existing M&A deals in greater jeopardy
- Higher Market Risk: Public markets have demonstrated not only a drop in value, but also significant volatility, and risk-adjustments have been affected on a sector by sector basis. This affects investor appetite for riskier private assets and affects the risk-adjusted value of private companies, assets and debt.
How to Estimate Forward-Looking Performance?
We have worked with many clients already to revise forecasts and make risk adjustments to their cash flows and working capital requirements. In other cases, more substantial, structural and longer-term changes are involved, completely altering the previously held performance trajectory. One of the best approaches to navigating material future uncertainty is deploying scenario-based and probability-weighting strategies, with a clear thesis around each scenario and a basis for the changes to key metrics. Don’t fall into unsupported bias, in either direction, which cannot withstand scrutiny in the future when the chaos recedes. It’s extremely important that valuations undertaken in this period are well supported, utilize sound methodologies, and will prove to be fully credible to investors or to an IRS/SEC review.
While COVID-19 has caused significant economic turmoil, there are a few smart strategies that Companies and HNW Families/Individuals and companies can take in the current environment to optimize positions that can drive longer-term gain value when valuations rise again.
Strategies for Companies:
- Reprice Underwater Options or Units
- Make Equity Grants / Restructure & Rebalance
- Keep Track of Equity Transactions
- Execute Corporate Conversions
- Handle Spin-offs/Carve-outs
Strategies for HNW Families and Individuals:
- Make Gift & Estate Planning Moves – Use it or Lose it
- Intentionally Defective Grantor Trust (GT)
- Grantor Retainer Annuity Trust (GRAT)
- Intra-family loans
Overall, this may be an opportune moment to either reset a prior valuation or to get a new valuation commissioned. In many cases, it may be prudent to consider/review whether the value calibrates in another 6-8 months as things settle down and greater visibility reveals itself as to COVID-19 impact and forward-looking performance. But whatever you do, make sure your actions are well documented and defensible in light of financial and valuation principles.
The one lesson of any downturn is that, when the dust clears, all of these actions are reviewed in a different world and often subject to fierce challenge. If you are a company that is angling towards an exit or an IPO, rest assured that buyers’ diligence team, the SEC and the IRS review stock awards closely.Download the full article
How can we help?
If you are a current Oxford client, we recommend that you reach out to discuss whether you or your company can benefit from any of these strategies. If you are not currently a client, we are more than happy to discuss this with you and help you in thinking through the best path forward. To learn more contact OVP or email us at firstname.lastname@example.org to set up time to talk.
Oxford Valuation Partners