The past and future of the valuation industry
The value of a business was once defined in simple terms. Prior to 1920, if someone had to value a business, there was no “valuation industry,” so it’s likely that the only reasonable or logical way to do it would have been to look at the business’s assets, its liabilities and its equity to formulate a value, according to Sageworks Senior Consultant Aaron Whitener, who recently led a webinar, “What Happens Next? New Themes in a Diversifying Valuation Industry.”
However, as our economy, markets and technology have seen exponential growth over the past century, “valuation science” has evolved – a trend that’s likely to continue as valuation professionals respond to healthy demand in the coming years, Whitener said.
The Prohibition Era first led to a new methodology, Whitener said, as closed alcohol distributors sought compensation for lost profits and it was recognized that all companies are not alike. Determining a company’s earnings in excess of another similar business introduced the concept of “goodwill, “whereby the IRS developed ARM34, or the Appeals and Revenue Memorandum. The memo summarized that
1) Goodwill exists if a business has earnings in excess of a like business, and
2) “Goodwill Value” is determined by calculating the value of those excess earnings.
This became the first IRS ruling to set the standard in the valuation industry.
Over the last 40 years, the valuation industry experienced widespread growth as credentials and specific industry designations solidified, Whitener noted. Experts had originally relied on their own build-it-yourself platforms, but later, associations and governing bodies formed to standardize the industry. Thought leaders and data analytics providers also rose to shape the “art” of valuation.
Whitener said that as the industry diversified, “big valuations” emerged during the internet boom. Big valuations and venture capital investments spiked during this bubble. In just a two-year period from 1999 to 2000, venture capital investment exceeded the total dollar amount of all venture capital invested over the previous 10 years. Dotcom era companies at the time were valued at as much as 26.5-times sales in all the exuberance and effort to grow big and fast, according to published reports.
Recently we have been seeing larger valuations again as investors have piled into tech and other companies. In 2014, the number of unicorns (companies valued greater than 1B) increased as much as 150 percent from 2013, according to CBInsights. Last year, there were 80 unicorns, and altogether, there are now 171 unicorns globally.
M&A has also been a significant factor in driving an increase in the demand for valuation professionals, with M&A activity totaling over $5 trillion last year in 2015 as companies sought to merge and acquire new market share as a means for increasing and protecting their position in the marketplace.
Whitener also highlighted the rising demand for valuation services in small- to medium-sized businesses –the trend was so apparent that the AICPA first predicted this in 2011. This includes cases of shareholder disputes, contractual disputes, family law, bankruptcy and insolvency. “We saw more valuations being performed in the middle market than ever before, more folks getting certified to provide valuation services than ever before, more brokerage firm activity than ever before,” Whitener said. “So one can say they were pretty spot on.” Overall, Whitener added, valuation professionals (including forensic specialists) are expected to see 10 percent to 50 percent growth over the next two years.
Today, growth in the industry is largely driven by baby boomers as Pew researchers indicate that an estimated 10,000 baby boomers a day will be retiring until 2030. Whitener said that current demographics indicate that there are increasing numbers of business owners who need valuations now, and will for years to come.
With massive projected opportunity in the valuation market, how will you prepare for the future?
“With all of this industry growth, there is a significant amount of opportunity, and when there is a wealth of opportunity, it’s also a breeding ground for competition,” he said. “Your success depends on your ability to adapt and stay competitive in this marketplace.”
Using an automated solution is one way valuation professionals can streamline workflow and scale existing processes to better address competition and fee pressure. To learn more about the future of valuation services and how to prepare for growth, listen to the on-demand version of the full webinar, “What Happens Next? New Themes in a Diversifying Valuation Industry.”
To learn more about preparing for valuation industry growth, watch the video below.