Nearly two-thirds (62 percent) of private equity firms do not outsource their valuation duties, preferring instead to keep them as a totally in-house exercise, according to pfm’s 2018 Fees and Expenses Benchmarking Survey. It is an area outsourced less frequently than any other in the private equity back office, including legal, fund administration and data management, according to the survey.
One possible reason for this is cost, according to general partner and co-chief executive officer of the Riverside Company Bela Szigethy. “I’m assuming a lot of firms that aren’t outsourcing are the smaller firms, because the cost is too high,” he told pfm at an event last week.
Riverside, which has more than $8 billion in assets under management, entrusts accounting and advisory firm Grant Thornton to perform valuations every quarter for its more than 80 portfolio companies, which can become costly.
“Our investors want us to use a third-party valuation firm to put a stamp of approval on our quarterly valuations and they would much prefer a third party to tell them what a company is worth than for us to do so,” Szigethy told pfm. “That’s not to say we don’t bless the valuations and ultimately decide what to publish, but having that outside party is a great comfort for our investors.”
Beyond any comfort it gives to investors, it can also make interacting with regulators, such as the Securities and Exchange Commission, a smoother process.
Valuation is a “main focus” of the regulator in any presence examination, according to Tom Angell, practice leader of WithumSmith+Brown’s financial services group, speaking at a pfm roundtable discussion on valuations earlier this year. “The SEC wants to see year-over-year consistency around valuations. They also want to see documentation surrounding the unobservable inputs. The SEC will talk to the auditors regarding their work on the valuations. They want to know what our approach was and how we got comfortable with the assumptions.”
Szigethy noted that “it’s easier because if regulators question our process, we can tell them this is the valuation from a third party.”