Valuation Snapshot - Winter 2020

Valuation Snapshot

Winter 2020

Welcome to the latest edition of Valuation Snapshot. In this regular publication we look at the trends and issues behind business valuations, and provide bite-sized advice that can help you and your clients when valuing a company.

Valuations are holding up Our index shows a 5% uptick for Q3 of 2020. Both PCPI and Argos indices have shown strong growth driven by activity in key sectors such at technology, life sciences, healthcare, construction, and building products. Argos reports strategic buyers pushing multiples higher with large listed companies representing c70% of active mid-market buyers –

buoyed by their own strong share price performance. Unlike the last recession, today there is no shortage of cash in the system nor buyers keen to spend.

Valuations have been sustained despite the COVID-19 pandemic. But it will be interesting to see what effect Brexit and any changes to CGT will have in 2021.

Key valuation indices Q3 2010 to Q3 2020

How will COVID impact on divorce valuations of private companies?

The impact of COVID-19 hasn’t been felt evenly around the economy. Some businesses stopped trading with no short-term prospect of recovery in light of new social distancing guidelines - hospitality and entertainment, for example. Others may have come to a complete stop but recovered more quickly once lockdown restrictions were lifted. And some have pivoted into different activities that can become a new service line post-crisis.

Valuing businesses where profit has clearly been impacted It can’t be fair for the spouse who is not in the business to suffer an unduly reduced valuation if the business is to recover.

Equally, for the spouse owning the shares, the risk attached to the recovery must be fairly reflected by the valuer. This is important not just for businesses being valued now, but also those valued earlier in the year. Such is the uncertainty that valuations may need to be revisited.

Historical data can’t be relied on as an indicator of future performance. A valuer must take account of the impact of COVID to reappraise earnings – trying to assess the underlying position which people have described as EBITDAC, which is EBITDA plus COVID effect.

To reflect uncertainty, forecasts must be scrutinised, but for smaller companies’, decent forecasts are uncommon. Valuers must work with available data and also consider the evidence in the market for how the sector in which the business operates will fare beyond 2020.

The approach probably needs to be different from the 2008 financial crash, which was generally viewed by the Family Court as a downturn one might expect to see in any economic cycle. The shut down of large swathes of the economy due to a pandemic is not part of any normal economic cycle.

In practice, the expert valuer will need to have more communication with the key individuals in the business to access and discuss forecasts, recovery plans and key performance indicators.

If the uncertainty facing a particular business is too great and yet the parties are unwilling to wait until it’s resolved, it may be that settlements will result in parties retaining shares in the same business. It might lead to the party, which might not otherwise have remained involved, having a new class of shares with specific, limited rights issued and possibly with attached buy-out conditions.

Lake Falconer lake@pemcf.com

Valuing a management consulting firm Management consulting firms are heavily dependent on their employees for their knowledge and skills. The business services industry in an important engine of growth for the UK economy and the consultancy sector grew by approximately 8% in 2019.

How to approach valuation The standard valuation approach for a knowledge-led business would be the market-based approach.

An appropriate multiple must be found to multiply against EBITDA – earnings before interest, tax, depreciation and amortisation – to arrive at the enterprise value or EV. It is effectively market value of the company plus surplus cash or minus net debt. It is difficult to find an exact figure when valuing an unquoted company and so often a range is the most representative as different multiples are applied.

Compare the market Comparable companies and comparable transactions from the relevant sector are analysed separately to find different multiples.

Recent transactions give an idea of what potential buyers are willing to pay for a similar business.

Comparable quoted companies can be used to see what a company in the sector would be valued at right now, in the current economic climate.

Ned Brown ned@pemcf.com

Financial information is not the only aspect of a valuation. Multiples also reflect the value of a business which may not be reflected in the EBITDA figure. This is important in the knowledge-led sector which has some crucial non-financial factors.

The skills, intellectual property and client relationships particular to key staff are intangible features but instrumental in the business.

Other factors include market position and customer concentration. A diversified client list also adds value to the company, and is particularly important if a consulting firm is preparing for a sale.

An eye on growth Multiples are likely to be higher in a growing sector such as digital services or artificial intelligence and especially if that growth is likely to be sustained. Generally, a company is valued more highly, and buyers will pay more, if there has been significant growth in the company or if this is forecast (within reason) for subsequent years.

Methods of analysing growth can be via the number or value of new clients and projects as well as client retention rates year-on-year and recurring revenue levels.

Get in touch if you have a client who would like to explore valuing their business in more detail.

PEM Valuations From time to time, your clients may ask you how to value their business.

Such requests could be triggered by: ▪ ▪ ▪ ▪ ▪ ▪ ▪

Divorce Shareholder exit Probate Restructuring Share incentive schemes Tax and Accounting Regulatory reasons

Yet for many advisers, valuations are not their day job.

This is where the PEM Valuations team can help.

Why refer your clients to us?

Focused Our valuations are produced by a specialist, multidisciplinary team with a valuations focus.

Personal We have a flat structure so clients always receive cost effective senior level attention.

Commercial Our real world experience in company sale and purchase negotiation means we don’t just claim to be commercial, we have the transaction record to prove it.

Tailored We do not use a software driven or “form-filling” approach. Our reports are based on a thorough understanding of the business to be valued, and tailored to the specific needs of the owner.

Get in touch: 01223 728 222 pem-businessvaluations.com PEM Corporate Finance LLP is authorised and regulated by the Financial Conduct Authority, registered number 212875.

Registered in England & Wales, company number OC302288 at Salisbury House, Station Road, Cambridge, CB1 2LA. If you no longer wish to receive this publication, or if you have had a change of address, please email info@pemcf.com.