The impact of the various lock-downs necessitated by the pandemic has directly affected the financial performance of the vast majority of businesses across the globe, both small and large.
Whilst certain M&A deals have continued on their charted timelines, others have seen an acceleration whilst some re-negotiation, and even stoppages, as a consequence of the impact in both buyer and seller positions. Funded deals feeling the most impact as they have in some instances experienced delays as bankers and financiers attend to more pressing matters in the moment.
The question foremost in most seller’s minds is that of value and how, in cases of a drop in performance, this might impact the value of their transactions.
In the same way that a company producing hand sanitiser cannot expect to achieve a valuation based on a short-term explosion of results, companies impacted negatively will not be unduly penalised if the effects are short term.
Normalisations are a fundamental element of negotiation in any M&A transaction where the objective is to determine maintainable earnings by ringfencing non-recurring income and expenses that might otherwise not reflect in the income statement under new ownership.
It would be naïve to suggest that these non-recurring expenses or even losses directly attributable to the effects of the COVID pandemic can simply be written out, but negotiations are bound to include provisions for such abnormalities. One can expect deal structures to include deferred compensation - or earn out provisions - that will be triggered when the business demonstrates a return to prior performance and a resilience to the COVID impacts.
At Benchmark International, we have gone as far as to suggest to some clients they create a COVID-19 income statement line item in which to capture the additional expenses/ losses that will arise due to this once-off event, a list of examples is below;
- Lost Productivity
- New IT infrastructure
- Bad debts
- Increased provisions imposed by auditors
- Underprovided items now expensed (i.e. leave)
- Divisional shutdowns
- Bridge financing
- Fixed costs (like rent which is possibly redundant for a period) to be made to be variable
- Additional safety and hygiene costs
- Forex losses or gains
With proper records of these types of expenses, it is possible to defend the adding back of expenses to earnings for the purpose of acquirer valuation in the future.