AICPA Issues Guidance For PE Fund Accounting

The American Institute of CPAs (AICPA) recently issued guidance for investment companies on how to fair value their portfolio company investments. The accounting and valuation guide titled Valuation of Portfolio Company Investments of Venture Capital and Private Equity Funds and Other Investment Companies is described by the AICPA as providing nonauthoritative guidance and illustrations regarding the accounting for and valuation of portfolio company investments held by investment companies within the scope of FASB ASC 946, Financial Services-Investment Companies.

The guide provides nonauthoritative guidance and examples regarding the accounting for and valuation of portfolio company investments held by investment companies within the scope of FASB ASC 946, Financial Services—Investment Companies (including private equity funds, venture capital funds, hedge funds, and business development companies). Though intended for preparers of financial statements, independent auditors, and valuation specialists, it is important that investment advisors to these funds understand the accounting and valuation of their funds’ assets.

Private equity firms are like venture capital firms in that private equity funds invest directly in private companies and, depending on the investment, may not be able to touch their investments for years. In some cases, they may also intervene in a private company’s operations and coach the management into making the business profitable. This could end in an initial public offering (IPO) or culminate in the company being acquired by another company. In either case, there is a period of years during which a precise value of the private equity fund’s investments is not objectively defined.

When looking at private equity accounting, valuation is a critical element. The choice of accounting standards impacts how investments are valued. All accounting standards require investments to be listed at fair value, which represents the estimated worth of various assets and liabilities that must be listed on a company’s books. The type of investment the private equity fund makes impacts the fund’s accounting. For example, some private equity funds are both equity and debt investors in which case interest payments must be reconciled. In other cases, the company may have an agreement to pay dividends to the private equity fund, and the distribution of those payments must be accounted for properly.

For the most part, accounting standards were not written with private equity in mind, so the format for private equity fund accounting had to be modified to accurately illustrate the private equity fund’s financial picture. For this reason, the AICPA’s guide should prove particularly helpful to private equity advisors.

The guide Includes 16 very realistic case studies that can assist in the analysis of real situations faced by auditors and investment advisors such as unit of account, transaction costs, calibration, the impact of control and marketability.  These emerging issues have presented challenges for investment fund managers and their accountants due to the lack of clear guidance.

The guide was developed by the AICPA PE/VC Task Force, which includes members from the PE/VC industry, auditors, valuation practitioners, and AICPA staff.