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Mini-cast 73: Coronavirus and the 12/31/19 Valuation

As the coronavirus pandemic wreaks havoc both medically and economically, many ESOP companies and advisors are working on December 31, 2019 valuations. Bret Keisling discusses why the coronavirus should not be reflected in December 2019 valuations, and related challenges to avoid with forecasting and repurchase obligations.


Mini-cast 73 Transcript

Announcer: 00:03 Welcome to The ESOP Mini-cast, a great way to wrap up the week.

Bret Keisling: 00:14 Hello my friends. Thank you for listening. My name is Bret Keisling and as it says on my business cards, I'm a passionate advocate for employee ownership. The world is in an unprecedented situation as the coronavirus continues to spread and is now officially a pandemic. I'll be honest, I had to look up the definition of pandemic. What it means is that the virus is now universal. It's not contained to a specific area, but it really is all over our globe. So the word pandemic does not speak specifically to the potential seriousness or deadliness of the virus, but rather that the virus has no physical boundaries. As the very real medical effects of the virus continue to play out, it's also very clear that millions of people not personally infected may face potentially crippling economic challenges as a result of the pandemic. From this economic perspective, it's breathtaking how quickly the business and economic environment is changing practically hour by hour.

Bret Keisling: 01:12 For example, I'm recording this episode on Thursday, March 12th. Last evening, March 11th the NBA announced it was suspending the rest of its season. As I sat down to prepare this episode on Thursday, it was announced that the NHL, Major League Soccer, and the NCAA are following suit and the PGA and NASCAR will continue to compete, but without any fans or nonessential personnel present. Meanwhile, literally as I started to record, I saw a news report that Major League Baseball has now canceled spring training and postponed opening day of the baseball season. So by the time you're listening to this episode, references like that will be just one part of the economic picture and frankly may feel a little bit like old news. That's how quickly things are changing.

Bret Keisling: 02:04 Another example is the college campuses and even some school districts are beginning to close to bring this home to employee ownership. Imagine that you're a restaurant, possibly an ESOP, more likely a co op or collective and you're in a college town. Generally many of these restaurants generate the vast majority of their revenue when the colleges are in session September through late May or June. They then have a couple of quiet months when school is out of session. where college campuses closed down in early March, these restaurants will lose March, April, and may revenue, which for many small businesses, whether they're employee owned or not, could be extremely critical.

Bret Keisling: 02:43 Meanwhile, as I record this, travel is banned from Europe for the next 30 days. If you're in a business that's dependent on tourist dollars, that's now threatened and there's no way to be sure whether the ban will be extended or even if the pandemic will significantly reduce tourism even after travel bans are lifted. Meanwhile, as everything plays out, ESOP professionals, trustees, valuation advisors and attorneys are focusing on how to address the pandemic as it relates to valuations and even transactions. If you're an ESOP with a fiscal year ending December 31st you're likely wrapping up your 2019 financials and interacting with your trustee and valuation advisor to complete the December 31st, 2019 valuation.

Bret Keisling: 03:31 Now, I sincerely hope that nobody would take pleasure in benefiting economically from a world crises such as this. Nonetheless, the reality is that if you're in a business involved with medical testing, for example, or perhaps you're an employee owned company that has a line of hand soaps and sanitizers, it's quite possible that your company could increase revenue and profitability during this time. On the other hand, if your company provides vendor services to trade shows or sporting events, for example, the cancellation of conventions, conferences, concerts, and sporting events could have a very detrimental impact on your company's value or future. So it's the spring of 2020 and some companies may be in a position to know to some extent that the pandemic could have serious effects on their business model moving forward. How does that equate with the December 31st, 2019 valuation? The answer may surprise you.

Bret Keisling: 04:26 A fundamental rule of valuations, especially ESOP valuations, is that the valuation is based on all of the information known or knowable as of the date of the valuation. What does that mean? The coronavirus should have zero impact whatsoever on the December 31st, 2019 valuation. This becomes very, very challenging for companies, valuation advisors and trustees and I'll give you an example.

Bret Keisling: 05:00 Let's say for whatever reason, because of your business, you're certain in mid-March that your revenue is going to swing 25% either positive or negative as a result of the coronavirus. This can't be considered in 2019's valuation. The coronavirus simply was not known until 2020 and it's certainly only been in the last three to four weeks that we've begun to get a sense of the potential of the pandemic.

Bret Keisling: 05:25 There are two things that ESOP advisors and companies should watch out for and they relate to forecasting and repurchase obligations as companies provide forecasts as part of the valuation process - and if you're not providing forecasts, that's a whole other podcast topic - but as you're providing forecast, it would be tempting to include what you now know as you forecast for the next couple of years. As regular listeners know, I spent seven years as an ESOP trustee and one of the things I would at when I received forecasts is how they compared and contrasted with forecasts provided the previous year. So for example, if there's a significant drop or a significant increase in revenue expenses or significant changes to the forecast broadly from what was provided the year before, I'd want to make sure that none of the coronavirus made their way into that forecast. So if the company provided me with data that showed a significant change, I would have asked them to document the reasons for the change.

Bret Keisling: 06:29 Now, of course, forecast change from year to year regardless of the pandemic. So I'm not suggesting that a change in forecast from last year in and of itself means that it's inappropriate, but the prudent trustee and valuation advisors are going to verify what the reasons are for the change as they would do in any year. And if the coronavirus has made its way into the forecast, I'd suggest that needed to be backed out.

Bret Keisling: 06:53 Because the valuation can only be based on what was known or knowable. There is a potential problem that could arise based on changes to the forecast as a result of the pandemic and that challenge is related to repurchase obligations. First of all, as a reminder, if you're an ESOP participant and you're not leaving the company for many, many years, the valuation over the next year or two is not really going to effect you, assuming of course the company remains viable.

Bret Keisling: 07:24 When the 2019 value is finalized participants who are being paid out based on that value, what we call the repurchase obligation, will be owed whatever they are due. But let's say the company faces a catastrophic loss of revenue in 2020; making those repurchase obligations from 2019 could cause a significant liquidity problem for the company. For better or worse, the repurchase obligation cannot in any way be considered in the 2019 valuation, pandemic or not. By the way, this is not a new challenge for ESOP's. Prior podcasts have discussed very real challenges when ESOPs receive a valuation resulting in a higher repurchase obligation than anticipated and ways that the company must address that.

Bret Keisling: 08:12 Remember that the ESOP valuation is how employee owners know the value of their stake in the company. The valuation must always be sacrosanct even when the effects of the valuation may cause challenges. Otherwise to quote unquote massage a valuation in order to manage repurchase obligations is fundamentally wrong, particularly in employee owned companies.

Bret Keisling: 08:38 So to sum up very, very clearly for anyone working on their December 31st, 2019 valuation, the coronavirus can't enter into that valuation at all.

Bret Keisling: 08:52 Now next week on Tuesday's EO/ESOP Podcast I'll be joined by Rob Hilton of South Park Advisors. Rob is a nationally recognized valuation expert. Rob actually was part of the ESOP 101 panel discussion that is our most listened to podcast. If you go to and you do a search for ESOP 101 you'll hear Rob Hilton and Tabitha Croscut of Devine Millimet and Rich Heeter of Capital Trustees discussing ESOP 101s. But Rob is going to join me next week for a deeper look at challenges posed by the pandemic as it relates to 2020 valuations and also as it relates to transactions that are being considered now. So I hope you'll join us next week. Meanwhile, as always, I'm very grateful that you joined me today and I hope you found this helpful and perhaps a little bit interesting. With that, this is Bret Keisling, thanks for listening.

Bitsy McCann: 09:56 We'd love to hear from you! To contact us, find us on Facebook at KEISOP, LLC and on Twitter @ESOPPodcast. To reach Bret, with one "T", email, on LinkedIn at Bret Keisling, and most actively on Twitter at @EO_Bret. Again, that's one "T". This podcast has been produced by The KEISOP Group, technical assistance provided by Third Circle, Inc. and BitsyPlus Design. Original music composed by Max Keisling, archival podcast material edited and produced by Brian Keisling, and I'm Bitsy McCann.

Standard Disclaimer: The views expressed herein are my own and don't represent those of my own firms or the organizations to which I belong. Nothing in the podcast should be construed as guidance or advice of any kind in any field and the fact that I mentioned an organizational website or an advocate or a company on a podcast does not reflect an endorsement, but if you've heard your name or your group's name mentioned on this podcast, I'd love to have you come on and talk about it yourself.


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