Impact of COVID-19 on Business Valuations in Colorado Divorce Proceedings

by Law Week Contributor

By Joseph Maher
GRIFFITHS LAW

There have been countless articles and opinions addressing the serious concerns and realities of COVID-19’s impact on the livelihoods of Americans and people throughout the world. In the family law arena, the initial thoughts were predominantly focused on effects on parenting time, child support and maintenance. It is essential that family law practitioners extend this discussion to the impact on business valuations. An April 23 article provided by the American Bar Association notes that valuations of business interests has the greatest area of uncertainty.

Local experts agree that businesses and their evaluations will be significantly impacted by COVID-19, though there remains uncertainty about how.  The impact will be particular to each business, leaving opportunities for some businesses and threats to others. Simply, there will be three types of business: the success stories, the survivors, and those that say goodbye.

General Business Success Indicator: Every business is unique, so valuating each business is inherently a fact-specific inquiry. Considering COVID-19, the success of a business and its value will be linked to the business’ access to capital. The shifting credit market has complicated credit opportunities and left some small businesses fighting to acquire what credit is available. Businesses that had significant debt leading into the pandemic may be catastrophically burdened by their repayment obligations.

Completed Valuations and the Look Back Dilemma: Countless valuations have already been completed this year. Unfortunately, these reports likely reflect the accurate valuation of the businesses prior to the impact of COVID-19. The reports (commonly dated for Dec. 31) do not take into consideration the current and future impact of the economy, as a valuation is based upon known or knowable information as of that date. The court, however, is required to value property as of the date of dissolution or hearing on the disposition of property. C.R.S. 14-10-113(5); In re Marriage of Hunt, 909 P.2d 525, 529 (Colo. 1995). This creates a question: how acceptable is a valuation that does not address COVID-19’s impact, if any?

The impact of COVID-19 on a business could be noted in various ways from a new evaluation or a simple review to acknowledge there is no issue with the valuation. The article published by the ABA noted that a re-evaluation can capture the true value going forward.  It may still be difficult to update the value to something more current because each case is fact specific.

Practitioners will need to work with clients and those valuing the business to address what needs to be brought before the court and how to do that, especially under limiting issues of cost and timing.

Impact of Governmental Remedies on Businesses Valuations: Like the impact of COVID-19 on past valuations, the data from 2020 for valuation purposes is problematic. This was echoed in a recent webinar put on by the American Academy of Matrimonial Lawyers, which noted that it is important to consider any relief provided to the business. ([1]) The webinar recommended looking into the effect on cash flow; the legal remedies taken by the business; whether the relief would be a windfall; and any impact of the business’ valuation date. [2]) Governmental relief is simply a circumstance and will not likely be a deciding factor. It will, however, need to be taken into perspective. Interestingly, the decision of the government to issue relief will nonetheless impact business success or failures and their values.

The ABA, through its published article, noted various arguments that can be made by counsel surrounding how a business owner handles available governmental relief, like the Paycheck Protection Program (PPP) loans. ([3]) After further discussion, the question will be at what point will a business’ failure to take action regarding governmental relief was a good faith business decision or an attempt at dissipate the business’ value by a party in control?

Discount Rate Quandary: Discount rates of a business are tied to the risk of the business operation and the ability for the business to obtain capital. COVID-19 will impact discount rates, however, this is on a case by case basis.  Some discount rates have already started to change, lowering business’ values. It will be important for practitioners to understand the approach taken in the valuation to appropriately advocate for the client.

Other Recommendations: This is unchartered territory. As such, family law attorneys should be proactive in discussing all issues surrounding COVID-19 with their clients. As it relates to business valuations, the discussion should address the pros and cons of the impact of COVID-19 and whether a supplemental evaluation or look-back assessment is appropriate, if available. Moreover, attorneys should begin to find related professionals to collaborate with, such as bankruptcy attorneys and professionals that have training in workouts. Put simply, practitioners will need to be creative in advocating for their clients.

— Joseph Maher is a senior associate attorney at Griffiths Law. He has experience family law, particularly divorce, complex financial matters, parenting-related litigation, and other domestic relations issues.