As we proceed through these unprecedented times, we are starting to see valuation dates that show PPP loans received, but not yet forgiven, as of the valuation date. Technically, as of the valuation date, the subject company has an interest-bearing debt obligation.
A financial statement would show the obligation correctly as a liability, and disclosures as to its terms and conditions. But what do we do with this liability as we estimate interest-bearing debt, or working capital when projected financial data clearly shows the company will qualify for the debt forgiveness?
Should our treatment of this obligation be different for an asset methodology vs. an income method?
We came across a June 30, 2020 valuation date where the company received a $10M PPP loan on June 28. The company has a payroll run rate of almost $40M per year which is expected to continue. The continued payroll costs, as a going concern, would easily qualify the company for loan forgiveness. It will ultimately be more akin to an infusion of free permanent capital.
COVID-19 has affected operations and loan devices such as the PPP loan program are unprecedented, leaving us no clear guidance from prior valuation work, nor a historic base of sale transactions that would show us the proper pathway.
Our thought process on the matter thus far is that in an actual transaction a loan arrangement such as this would NOT be considered a liability that will require repayment, even when the act of forgiveness has yet to occur. Some may argue that we only consider what is known or knowable at the valuation date. But that knowledge includes expectations for future operations. And if those expectations as of the valuation date would lead us to the clear conclusion that forgiveness is of high certainty, most, or all the loan will be canceled.
We have also considered the certainty of this assumed forgiveness. Are we 100 percent sure? Probably not. But we may be 80 percent sure. If so, should we then disregard the loan liability in our calculations? And we are currently leaning in this direction.
Even when using an asset method, which looks on the surface to be a spot calculation, we are still assuming a value for the company as a going concern. If, as a continuing going concern, the forgiveness is highly likely, what liability do we use in an adjusted balance sheet approach? Again, we believe the liability at face value will not require full repayment, and to assume so would be contrary to facts and expectations for the company as a going concern. Some adjustments to the face loan value would be required, and all or part of the liability should be reduced.
GAAP requires the liability to shown at face value, with all appropriate disclosures, until it is legally forgiven. But a buyer and seller, each having knowledge of all the relevant facts, would have to make adjustments, and estimate the final obligation, that amount that is most likely to be repaid.
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The information and advice we are providing for this matter relates to COVID-19 legislative relief measures. Because legislative efforts are still ongoing, we expect that there may be additional guidance and clarification from regulators that could modify some of the advice and information provided to you, after the conclusion of our engagement. We therefore make no warranties, expressed or implied, on the services provided hereunder.