Posted: 29 Jun. 2020 5 min. read

Valuation expectations during COVID-19

We interviewed Australian corporate heads of M&A and identified key trends influencing deal activity and the expected impact of COVID-19 to their business in 2020. You can download our full The deal in focus report for data findings from our interviews and actionable insights from our M&A leaders.

Below, we share the highlights from our theme, Valuation expectations.

 

Key actions

  • Buyers and sellers: Use commercial and financial analysis to understand earnings and cashflow impacts of COVID-19
  • Buyers and sellers: Use scenario planning and then cashflow and valuation modelling to understand what working capital will be required
  • Sellers: Show how future impacts of COVID-19 can be mitigated
  • Sellers: Create a ready-to-go due diligence pack

 

The only way was down

Even before COVID-19, there was a sense that there was only one way the market could go — down.

Low interest rates and high growth expectations led to high asset valuations so, it wasn’t going to take much for markets to get the jitters. And with the dramatic falls in the equity capital markets when the crisis hit, came a substantial repricing of assets.

While private markets will likely take a more considered and pragmatic approach to valuations, the types of impact on business of COVID-19 described below are not isolated to listed companies and we anticipate multiples for private companies will also drop.

Business disruption – and the impact this has had on cashflow and earnings – and the unwinding of high growth expectations that had been priced into valuations, has brought about a double-whammy decline to business values.

As business value lies mostly in its long-term prospects, the uncertainty around ongoing impacts of the crisis has increased the level of risk and is also driving down valuations.

When there’s more certainty around the implications of COVID-19, we should see some of that volatility decrease, with a commensurate decrease in the risk priced into valuations.

Although risk appetites have changed, lower valuations and pricing will create opportunities for buyers with liquidity, who can now realise greater value in good quality businesses that might not be faring so well in the short term.

Assessing business value through COVID-19

Whether you’re on the buy side or sell side, substantial commercial and financial analysis should be done to understand earnings and cashflow impacts, which will help determine where the business is likely to land on the other side of the crisis and how it will get there.

Scenario planning

Plan for the best, worst, and extreme-case scenarios and consider how the health, social, and lockdown implications of COVID-19 translate into:

  • the economy 
  • industry
  • supply chain
  • workforce
  • customer demand 
  • supply
  • competitive positioning

Businesses can then use cashflow and valuation modelling to understand what working capital will be required to get through the next 12 to 24 months.

Risk mitigation

To show how future impacts of COVID-19 can be mitigated, analysis should be done to understand the impacts on the business and the specific cause of them.

For example, businesses using supply chains will increasingly use a number of on-shore suppliers for a more balanced approach to just-in-time inventory management — to achieve this may require time and possibly investment, which will have long-term implications from a financial perspective.

All business specific risks, the implications of the risk, and the mitigants to the risk need to be fully considered and captured in the modelled cashflows to show whether additional risk premiums are required to reflect the uncertainties around the crisis.

Having thought through these issues and included them in a ready-to-go due diligence pack will allow sellers to be in control of the message and give confidence to buyers on the business.

 

Read the next blog in our M&A series on The divestment dynamic.
Or download our full The deal in focus report for data findings and insights from our interviews with ASX200 M&A leaders.  

 

More about the authors

Tapan Parekh

Tapan Parekh

Partner, Valuations

Tapan is primarily involved in providing valuation advice to clients ranging from corporates to investors with respect to value issues related to mergers, acquisitions, disposals and restructurings. This advice can focus on deal assessment, cash flow growth and risk, valuation issues and benefits/disadvantages to stakeholders.

Nicki Ivory

Nicki Ivory

Partner, Corporate Finance

Nicki is the Lead Partner of Deloitte Financial Advisory Pty Ltd in WA. She has over 20 years’ professional experience in Australia and South Africa. Nicki has experience in providing valuation advice, including independent expert reports and other non-public valuations. She has also advised clients on the buy and sell-side of transactions with a focus on the resource industry and companies that service the resource industry, in particular the iron ore industry.