We are hearing and reading all about artificial intelligence and the role it may play in our lives. Think about how our lives have changed over the years with new things: from radio to television, from horses to automobiles, from writing letters to texting and messaging. It is quite astonishing the transformation technological advances have in our world.
And with such advancements, there are downsides such as the general belief that constantly being on one’s phone or tablet has prevented a generation of young adults from being able to have a conversation. There always seems to be a trade-off as innovations take effect.
Does AI Threaten Business Valuations as Prepared Today?
It is a fair question given the emphasis on applying artificial intelligence to rapidly produce large amounts of content on any given subject. Given a completed business valuation is typically 100+ pages, it would be logical to think that AI can shorten the timeframe and lower the cost.
So, let’s take a broader view of key elements that are analyzed when preparing a detailed and thorough business valuation of a privately held company:
- Financials (revenue, net income over a period of time)
- Leadership team
- Products and services
- Local market information
- Customer/client base
- Assets including equipment, physical properties, real estate
Determining the valuation of a privately held business is not formulaic. There are quantitative components (of course) but also qualitative factors as noted in the above simplified list that a ChatGPT or other AI system cannot accurately account for.
An example: two convenience stores have the same revenue, net income, products, square footage, and foot traffic. It is likely and reasonable to think that by applying AI, the valuations for these two stores would be the same or quite similar. An industry multiple (an average) would be applied to the earnings and a few industry comparatives would be identified to determine a valuation. A lot of general content could be generated via AI to describe the convenience store national market, local market, and recent transactions. Volumes of content could be generated, but the applicability of the content may or may not be relevant to each convenience store.
In reality, each of these stores will have a vastly different valuation based on a thorough analysis of the above list. One will have a significantly higher valuation due to its client base, location and lower business risk factors.
At a quick glance, the challenge for business valuations given the rise of AI will be identifying if the contents of the valuation are ‘junk’. With AI, volume of content can be generated rapidly, but the challenge will be in determining if the content is accurate.
A Test of AI by a Highly Regarded Valuation Professional
A business valuation professional who is highly regarded nationally spoke about AI as it relates to developing business appraisals at the annual NACVA conference (National Association of Certified Valuators and Analysis). He conducted a test using AI to prepare a business valuation. His test showed that the AI tool had fabricated content.
Ask How the Sausage is Made
It may seem difficult to evaluate a business valuation professional other than to rely on the integrity and professionalism of a person you trust who made the referral. There are important factors to consider including their credentials and certifications. First, do your homework online and then when speaking with the recommended business appraiser, ask to describe the process they follow to prepare the valuation. You have every right to ask about process and to listen or ask specifically, if they complete the research, have other staff to do the research, or do they leverage AI. If the latter, move on.
Business valuations need to stand up to intense scrutiny, which in some cases is handled in court. If the valuation report has been generated by AI, who is testifying to the opinion of value in the business valuation? A system can’t testify.
When a business valuation matters – whether for a tax matter including settlement of an estate, allocating assets as part of a divorce, settling a shareholder dispute, or selling a business – the consequences of the business valuation are important. AI is not where it needs to be as a replacement for a thorough and objective business valuation. I am not convinced it ever will be there, but never say never.
For professionals seeking to cut corners and check out emerging technology, yes, their fees may be less, but their professional reputation is at risk and your time and money is also at risk for an inaccurate valuation.
Stay tuned to the fascinating advancement of artificial intelligence, but do not risk a flawed valuation that has real implications.
When Values Matter.