Has Covid-19 changed how businesses are sold?

Covid-19 inevitably impacted the way business is conducted – but has it changed how businesses are sold?

Recent Mergers and Acquisitions (M&A) Activity

When the UK lockdown was first announced, many business owners had to focus on staying afloat, and inevitably pause any ‘next step’ plans such as succession or exit. As a result, M&A transactions came to a halt in the first few months of lockdown – with deal volumes hitting their lowest levels since 2013 in Q2 of 2020*.

The impact of the pandemic wasn’t felt equally across sectors or regions of the UK. Trade sales have continued in sectors which were bolstered by the pandemic, such as TMT. However, some sectors were ill-equipped and found it difficult to overcome trading challenges, as well as operational challenges such as furlough and remote working. As consolidators in these industries faced the same issues, there was less demand for strategic acquisitions in these sectors.

While the uncertainty of the pandemic put a stop to many trade sales, private equity has returned to actively seeking opportunities which boast robust business models, high growth rates and entrepreneurial management teams. After the initial slowdown in the early stages of lockdown, private equity firms were able to deploy capital into deals which had been put on hold.

Valuation metrics

“The principles of valuing a business have remained unchanged throughout lockdown – with investors still focused on internal returns; often assessed by reference to a multiple of Earnings before Interest, Taxes, Depreciation and Amortisation (EBITDA). That said, businesses’ earnings were significantly impacted, both favourable and adversely, during the lockdown and understanding this impact and its sustainability is increasingly becoming a key piece of analysis – particularly during the due diligence phase of a transaction.” said Philip Mettam, Director at Meridian Corporate Finance.

As shareholders are incentivised to increase the value of the business, creative methods have been used to increase earnings. One of these is the use of ‘EBITDAC’ (Earnings before Interest, Tax, Depreciation, Amortisation and Coronavirus) which includes adjustments to normalise the impact of Covid on a company’s financials, and therefore value. While there has been much debate around this, most analysts and investors have agreed that the metric will not take the place of EBITDA when valuing a business due to its subjective nature, but the assessment of ‘maintainable’ earnings is an area of more debate – and may filter through to the overall structure of the consideration.

What is driving sell-side activity?

As life returns to normal, business owners have begun re-evaluating their options in terms of succession planning. As ever, the decision to put their business up for sale is primarily driven by owners’ desire to de-risk from a wealth perspective, and de-stress from a personal perspective.

Covid has clearly exacerbated the risks and stress that goes hand in hand with owning and operating a business. Owners have had to adapt very quickly and learn to tackle many new issues – whether they are business critical, or more administrative (such as making furlough claims). Having successfully navigated their companies through lockdown, many business owners now believe that the time is right and are looking to exit to pursue other interests.

Others might be looking to exit in anticipation of unfavourable budgetary changes. The unprecedented levels of government spending during lockdown to provide economic aid has resulted in concern about the impact of any potential changes to capital gains tax and further changes to Business Asset Disposal Relief. Overall, this has incentivised some owners to crystallise a gain by way of transaction before the imminent Autumn budget.

Alternatives to a sale

Whilst a trade sale remains the traditional way forward to de-risk and extract cash, the business impact of coronavirus means that a sale might not be achievable, or not achievable ahead of any budgetary changes.

Outside of trade sales, there are a number of other transactions that allow entrepreneurs to balance their retained interest and risks in the business - all in varying degrees. If you are considering exit options, contact Meridian, who have a 19 track record of working with entrepreneurs to help achieve their objectives – whether that’s through a sale to trade or private equity, or any other structured buy-outs.

*Private Equity Wire, July 2020