How the CARES Act Has Affected Cannabis Business Valuation

The coronavirus pandemic and the legislation designed to help employers during the crisis have added new challenges for professionals who perform business valuations.

To help CPAs and other valuation experts meet those challenges, the AICPA on Tuesday issued a set of FAQs on how to adjust Cannabis business valuations based on the Coronavirus Aid, Relief, and Economic Security (CARES) Act, P.L. 116-136.

The FAQs help valuation professionals understand what to consider when evaluating businesses that received funding or support under one of the CARES Act provisions. The FAQs offer insight related to tax law changes as well as funding provided through the Paycheck Protection Program (PPP), Emergency Economic Injury Grants/Economic Injury Disaster Loans, and the Small Business Debt Relief Program.

“The COVID-19 pandemic has had an unprecedented impact on businesses, large and small, and has substantially impacted the value of many of those businesses,” Eva Simpson, CPA, CGMA, director of valuation services for the Association of International Certified Professional Accountants, said in a news release. “The CARES Act is intended to help businesses weather this pandemic, but it also adds new considerations to business valuations.”

Using the CARES Act provisions for relief may cause a business to experience a one-time event that alters its income and market inputs to value. For example, the CARES Act temporarily repeals the 80% income limitation for net operating loss deductions going back to 2018. This change allows some businesses to claim operating losses against taxes already paid and receive immediate tax refunds, increasing expected cash flows.

But while that cash infusion may benefit the business, it also can affect net income, causing a spike in the business’s valuation under many current valuation models. The FAQs discuss this concern, making sure valuation models are adjusted for any one-time tax benefits.

Other valuation topics to consider that are discussed in the FAQs include:

• Whether PPP loans will be forgiven and treated as a grant or whether they are low-interest loans and treated as debt, and how that determination alters projected net income or cost of capital.
• The effects of the U.S. Small Business Administration’s coverage of six months of Small Business Debt Relief Program payments. This coverage can alter cash flow, increase net income, and change cost of capital.
• Whether comparable companies benefited from the CARES Act provisions and how that alters their multiples when a valuation professional is conducting a market approach.
• Whether acceptance of CARES Act funds indicates that a business is under duress and, as a result, past financial results are not indicative of future operations.