By: Patrick Ungashick
If your exit strategy is to sell your company one day for the maximum value (perhaps as soon as possible once the COVID-19 recession is over?), then it is essential to track your company's EBITDA accurately. (Read our previous article about EBITDA and how it directly impacts your company's valuation at the sale.) However, the COVID-19 pandemic and economic recession have significantly altered many companies' financial results and condition. The virus is causing many companies to experience "abnormal" changes to revenue, costs, margins, labor, debt, and other financial and operational factors. Many companies are experiencing negative changes such as lost revenue and profits due to the virus' impact, while others are experiencing positive demand for their products and services. Either way, the virus is altering many company's financial results, which means adjusting the EBITDA. Some of the changes are temporary (non-recurring) and expected to revert to pre-COVID-19 conditions at some point in the future. Other changes may be more permanent.
When you decide to sell your company, it will be crucial to have accurately tracked your EBITDA and its changes through these unusual and unprecedented times. Potential buyers will want to know how COVID-19 impacted your company's financial performance. They will also want to be able to clearly and readily convert your company's financial results to show how the company likely would have performed during normal operations and market conditions. Because buyers typically ask for five years of historical financial reports, it is essential to track EBITDA now whether you aspire to sell your company quickly or anytime within the next five or so years.
There are many ways COVID and the recession may be creating unusual changes within your company's financial results. Below are some of the more common issues that you and your management team may need to address:
- Temporary Increases / Decreases to Revenue or Profits
Due to COVID-19, some companies may see a surge in demand for their products leading to an increase in revenue and profits. Examples might include companies dealing with products or services in the following areas: medical and health, cleaning and sanitary, home entertainment, transportation, and delivery services, and other industries. Conversely, other companies may be experiencing a reduction in the demand for their products or services, leading to lost revenue and profits. Examples include markets such as hospitality and leisure, travel, luxury goods or services, and others. In these situations, you and your team should monitor demand, revenue, and profits to identify how much, of the lost or increased volume, relates to the current conditions and is not expected to continue after the virus and recession have passed.
- Business Facility Disruption
Many companies were forced to close facilities such as offices, manufacturing plans, distribution centers, etc. due to COVID-19. These disruptions likely result in lost EBITDA. Owners and their management teams should, track any business disruptions and document the duration and root causes, to facilitate analysis of the company's financial results for the periods before and after the relevant shutdown. Additionally, track operating expenses that were reduced or not incurred when determining the normalized EBITDA.
- Expenses to Support Remote Work
Many businesses incur increased expenses associated with the shift of workforces from company facilities to work-from-home (WFH) routines. Examples of these costs include improved information technology (IT) expenses and equipping employees with additional computers and other equipment and supplies to support remote work. Owners and their teams should identify and track these expenses and purchases to support remote working. Also, track any positions likely to remain WFH going forward.
- Reduced Employee Compensation and/or Headcount
Many companies severely impacted by COVID-19, and the current recession have reduced employee compensation, and/or reduced employee headcount through lay-offs or furloughs. Owners and their teams should track employee compensation and headcount pre-COVID-19 and post-COVID-19. Also, consider any costs associated with severance payments and other employee termination costs. Use this information to normalize the company's EBITDA for the period.
- Increased Bad Debt Expense
Many companies are experiencing an increase in aged accounts receivable (A/R) as customers delay payment due to the virus and recession. Also, other companies may be experiencing increases in bad debt expense resulting from customer bankruptcies. Business owners and their management teams should closely monitor A/R aging and collections to stay in front of any potential issues with customer payments.
Careful consideration should be given to modeling future customer revenue for specific lost customers and plans to recapture lost revenue by channel/geography.
- Stretching Payments to Vendors
In an effort to conserve cash, many companies are stretching payments to vendors, landlords, leaseholders, etc. This practice leads to increases in aged accounts payable (A/P) and higher A/P balances. In some situations, stretching payments can result in lost early pay discounts if previously available and utilized. Carefully monitor the business's payables, consider normalizing higher than usual A/P balances and significantly aged payables, and impact to EBITDA.
- Government Loan and Bailout Programs
Since the COVID-19 crisis first hit, many companies have taken advantage of various government loan and bailout programs which are not normally utilized in the regular course business. The most widely used program among small to mid-market companies has been the Paycheck Protection Program or PPP. These programs invariably have stipulations such as retaining certain levels of employees and their compensation, and other expense management requirements. Business owners and management teams must consider and normalize the impact of any loan or bailout programs on the company's earnings and consider normalizing the impact.
The seven items listed above represent only some of the more common issues that companies may be experiencing due to COVID-19, which alter EBITDA. There are many additional issues to monitor and track, such as changes to the company's: pricing of its products and services, discretionary expenses, cash management practices, business development operations and results, employee attendance, and absenteeism. Ultimately, owners and management teams need to study and accurately track the company's EBITDA and other financial results during these unusual times. Staying on top of these issues is essential not only for the effective leadership of the company but also for correctly positioning the company for sale when that day comes.
Contact us to discuss your specific EBITDA questions or your overall exit plans. If you intend to sell your company as your exit strategy, consider registering for our webinar "Eager to Sell Your Company when the Market Returns?" . During this webinar, we will discuss the steps that business owners need to take now, to position the company for sale and maximize value when market conditions return to favorable.