The COVID-19 crisis is unique, and we have never in our lifetime has seen governments of every essential economy closing businesses, preceding exports and FDI so rapidly and suddenly for maintaining the health of the country. Subsequently, the repercussions and challenges to corporate valuations of companies have also been hugely impacted.
An illustration of the extremely negative impact on the stock market, which provides validated market-related information for valuation is displayed below, both from a return standpoint and a risk standpoint.
Image Courtesy: MNA Critique-BSE
The graph above shows a rundown of the BSE Sensex passage during the pre-crisis stage taken from December 31, 2019, to as April 15, 2020. The Sensex has plummeted from Rs. 41,253 to Rs. 30,380 through this period, an overall decline of over 25%. The steepest drop was on March 23, 2020, at 25,981, a decline of 37%.
Image Courtesy: MNA Critique-BSE
The Sensex risk has been obtained or indicated by the movement in the India Volatility Index for the same period of December 31, 2019, to April 15, 2020. After a low of 11.76, the VIX has risen to 49.74, which is a soaring spike of 323%. Similarly, the VIX crested on March 24, 2020, at 83.61 indicates an increase of 611% from the pre-crisis date.
Let us try to comprehend the effect of the on-going COVID-19 crisis on business finance functions such as corporate valuations, including M&A, pricing policies, warrants, the exercise of convertibles, dispute motions, and options of earn-out stipulations.
Challenges of Fair Value (FV) in Corporate Valuation
According to the IND-AS-13 and IFRS-13, Fair Value is defined as, 'The price received for the sale of an asset or the transfer of a liability in an orderly transaction between market participants on the date of the valuation'.
Both Insolvency & Bankruptcy Board of India and Reserve Bank of India have asserted that for Fair Value to be satisfactory and tolerable, it should be verified by a Certified Corporate Valuation Specialist applying 'Internationally Acceptable' valuation methods.
Predominantly, in India, the most pragmatic, and acceptable corporate valuation practices adopted by Certified Business Valuation Professionals are as following:
Challenges of Discounted Cash Flow Methodology (DCF) in Corporate Valuation
The critical variables utilized in a DCF that have been impacted due to COVID-19 are:
Forecasted Cash Flows
Market Rate of Return
Cost of Debt
Perpetuity Growth Rate
Undoubtedly, COVID-19 has and will continue to pose major problems for the corporate valuation of assets, businesses, and equities for quite a while.
In the current setting, traditional approaches to corporate valuation need to be re-evaluated. Valuers would need to conduct more robust due diligence on the consistency and quality of financial projections. It must include what regulatory changes are required for making changes to earnings, multiples, or discount rates if any.
Although it would require more diligence on business forecasts and projections, currently, corporate valuations made using DCF will be given more importance as it can capture a restricted down-side period more precisely.
In the current scenario, Transaction Multiples Approach (TMA) could get more footing but will still require downward adjustments. Depending upon the industry, and the level of stress, the degree of TMA adjustment or modification needs to be evaluated on a case to case basis. TMA based methodologies are still being utilized as normalized, as adjusted numbers start to become more evident. Some common practices:
Rather than using current multiples, utilize multiple-year average multiples
Distorted P&L statements, i.e. Revenues of 10 months and costs for 12 months are being regulated.
COVID-19 adjustments are associated with one-time expenses of resuming or stabilizing business operations.
New innovative deal structures based on convertibles, options and warrants will become more common.
The above-mentioned challenges and changes must be resolved and implemented on a case-by-case basis. When it comes to corporate valuation – there is no 'catch-all' approach which can be employed across businesses in all industries. It is precisely at these times that corporate valuations done by random use of a multiple to a number will be considered irrelevant as it requires more intensive professional expertise. Provided the variability, negotiating valuations and closing deals, amid COVID-19 will remain a bit disoriented.
At TRC Corporate Consulting, we help you realize the true worth of your company. Whether you plan to sell your business or formulate a growth plan, the best thing you can do is to get an expert assessment of your company annually. Our corporate valuation professionals also help you identify the non-competes of your business to mitigate risks. You can expect reports explaining the full economic cycles of your business and ways to improve them.
When you avail our corporate valuation consulting services, we don't consider you to be just our client, we think of you as our partner. Fulfilling your company's business requirements thus becomes our priority. If you need a better understanding of our services or have any queries, contact us!
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