Investing during and after COVID-19

The investment climate created by the COVID-19 pandemic has demanded strong stomachs as fortune has drained from some sectors overnight and seen others flush with opportunity. While there is optimism about private market investors’ ability to weather and indeed aid the response to the pandemic, the scale of the economic crisis will depend on how governments balance public safety with economic growth, and international cooperation with domestic demands.

These political and policy uncertainties, and heightened societal activism, require private market investors to be acutely sensitive to the profile and timing of their investment decisions. This is particularly true for sectors and individual opportunities that need urgent liquidity or that face bankruptcy. It is also true for sectors that are more obvious and stable opportunities; namely those that protect and connect people, such as healthcare, logistics and technology, and those that are likely to power and rethink economic systems, such as renewable energy and the green economy. 

Irrespective of the sector, COVID-19 has accelerated an emerging set of risks that are encouraging private market investors to reconsider their overall investment strategies, and to enhance their diligence and risk assessment processes to evaluate individual opportunities. In our recent RiskMap 2020 Special Edition we argued that the geopolitical risks to business that we identified at the beginning of the year still stand, but have been morphed and enhanced by COVID-19. 

COVID-19 has widened the diligence lens

COVID-19 has changed the nature and importance of issues that investors consider in their diligence. There are five priority considerations for investors when assessing a target company:

• The stability and strength of a target’s revenue streams and key commercial relationships, including its exposure to clients, suppliers and geographies significantly affected by COVID-19.
• The management team’s leadership, and the extent to which their reputation and the investment target company’s relationships with key stakeholders have been affected during the crisis, including with its labour force, important clients and suppliers; and its interactions with government agencies and regulators.
• The investment target’s exposure to financial crime and regulatory risks due to inappropriate or illegal practices that were incentivised by the crisis, such as the use of bribery to encourage sales, opportunistic frauds, or false representation and improper influence to secure government support schemes.
• The investment target’s continued commitment to and compliance with its environment, social and governance (ESG) policies or broader code of ethics during the crisis, including with vulnerable third parties in its supply and distribution networks.
• The investment target’s governance of its digital infrastructure and cyber security due to permanent changes in our working habits as a result of the pandemic, and the increasingly sophisticated and diverse nature of cyber and digital threats to data and infrastructure.

Political and regulatory risk has been brought into focus 

Much as investment targets are evaluated on their individual merits, so are economies. The multifaceted economic and political consequences of COVID-19 should be considered in overall investment strategies and individual deals.

• Governments are intensifying screening of foreign investment and introducing regulatory restrictions to support and protect vulnerable or important local companies. Investors need to build scenarios and engagement plans based on how their investment will be seen by local and national governments and other political actors. Additional regulatory scrutiny will need to be factored into deal timelines.
• Political stakeholders will rise and fall due to their perceived management of the crisis. Understanding the political position and relationships of a target company, and how it is exposed to changes in policy, will help you to evaluate investment assumptions in a range of plausible political outcomes.
• COVID-19 and its aftermath is changing the underlying business environment in the jurisdictions in which companies operate. Sovereign, contract, taxation and capital control risks are facing new pressures, while security risks and civil unrest are being driven by new interest groups. Countries that were favourable investment destinations and perceived to be low political risk may become less attractive as the medium-term effects of the pandemic make their mark.

Maintaining the mechanics of diligence 

COVID-19 has created challenges for conducting diligence, particularly in emerging markets, primarily due to (a) the inability to travel, and (b) the closure of government agencies in countries where in-person meetings or document retrievals are necessary or culturally important. These conditions, combined with a rise in demand for short-turnaround diligence in response to changes in supply chains, or related to corporate lending and trade finance needs, have posed significant challenges to companies’ ability to perform due diligence to their established standard.

Organisations need to take a risk-based approach to what is considered “good and proportionate due diligence” under the circumstances and proactively explore alternative solutions to achieve their objectives. Consensus on this is built through internal discussion and agreement about what your organisation considers “good” rather than “perfect” given the challenges that have been set out above. Many aspects of due diligence remain feasible, particularly with the application of technology solutions.