Covid-19 has caused unprecedented disruptions to SMEs across Australia. For accounting practices this has impacted the value of goodwill - but how and how much this affects practice value and the sale process is still an open question.
Given that goodwill is mainly represented by the prospect of annual ongoing revenue from existing clients – and given the uncertainties of the Covid-19 downturn on both individual businesses and the economy at large - there is an increasing focus on analysing the stability and viability of the client base.
A typical segmentation puts the clients (and their attendant fees) into three categories:
- Those who are unaffected.
- Those who are affected temporarily; and
- Those who are affected permanently (potentially resulting in closure)
For practices with a majority of their clients in the first category there is (unsurprisingly) little to no effect on price and terms.
Practices with a material number of clients in category 2 or 3 will need to consider the impact this will have on their sale.
The good news is this: we are finding that the inclusion of affected clients is not necessarily having a detrimental effect on the price paid for fees.
Instead, the implied risk from these clients tends to be reflected in the retention terms. The retention amount and period are often dialled up to cover a potential fall in fees.
This situation is complicated by the uncertainty over whether Covid impacts are temporary or permanent, and the timeframes are difficult or impossible to predict for individual clients (let alone for a whole list).
To cover this situation we’ve had clients consider alternatives to the common methodology for calculating retention based on fees.
A typical retention calculation would assess fees over a single period of time (a year, for example) to commence following settlement.
Some vendors are requesting that the time for retention calculation be delayed in order to give their clients time to recover from the immediate effects of the downturn, making the case that the delayed period better reflects long-term returns.
In a recent transaction the buyer agreed to pay retention based on the greater of either the immediate period, or the delayed period.
The take-home message is that transactions are still happening, and that there are equitable ways to both express and hedge against the uncertainties.
On a related issue: we’ve spoken to major banks regarding their assessment of a fee base with respect to providing credit.
They have indicated to us that they may commence reviewing the top of the client list (e.g. the 20% that generate 80% of revenue) and using this form of sensitivity analysis to assess whether they are prepared to lend on the acquisition.
Clearly, it’s important for vendors to have a good understanding of where their client base will land when it comes to Covid-19 impacts.
The upshot is that practitioners are adjusting terms to suit the situation, the major funders are still willing to lend and deals are still being done - testament to an industry that is swiftly and effectively adapting to the reality of Covid-19.
If you’d like to speak about selling your practice we’re happy to help – you can email Mark Witt at mark@practiceexchange.com.au or book a call with Mark via Calendly.
