On 14 December 2022, the International Private Equity and Venture Capital Valuation (IPEV) Board published revised IPEV Guidelines setting out recommendations intended to represent current best practices on the valuation of private capital investments. The revised Guidelines replace the 2018 Valuation Guidelines and are effective for periods beginning from 1 January 2023, with early adoption encouraged.
In this blog, we discuss what the revised Guidelines mean for private equity portfolio valuations, with a focus on capital structures.
Complex capital structures and its impact on portfolio valuations
In the revised guidelines, IPEV has added a new section ‘Complex Capital Structures’ to expand on practices that need to be adopted when valuing private equity portfolio, for example:
· Identifying various rights and privileges of different share classes;
· factoring these into the valuation; and
· the likelihood of their execution, as the chances of successful IPO or M&A exits change over time.
We regularly see three practical challenges faced by private equity GPs around the issue of complex capital structures and their impact on a Fund’s valuation:
1. Private equity-backed portfolios often have complex capital structures with multiple instruments and shareholders. In addition to the Fund, portfolio management, and co-investors will likely hold significant interests. The Fund’s valuation needs to factor in (back-out) the value of all the non-Fund holders and their rights across each instrument.
2. The capital structure at the portfolio level is constantly changing during the holding period due to additional issuances, transfers, buybacks, interest accruals on coupon-bearing instruments, add-on transactions, group reorganisations, etc.
3. The two challenges noted above are compounded by the fact that a Fund will have holdings across multiple portfolios – each with its complex capital structures and changes to it over time.
Synching real-time portfolio capital structure with a Fund’s valuations
To meet the challenges listed above, GPs need real-time capital structure data across their portfolios that is seamlessly connected to the Fund valuation to:
a) apportion the adjusted Enterprise Value of each portfolio company across its different financial instruments according to their ranking; and,
b) allocate the amounts derived according to the Fund’s holding in each financial instrument.
Current processes and methodology, with their heavy reliance on spreadsheets and manual processes, can be onerous and prone to error. Technology can help a great deal in streamlining the process and ensuring accurate valuations.
DealsPlus’ Cap Table Management Suite not only allows Portfolio Management teams to better administer the cap tables at the portfolio level but also provides the GPs with a single source of truth across all their portfolios. The real-time cap tables in DealsPlus can seamlessly link with portfolio valuation (waterfall model) to provide an accurate valuation for the Fund.
Increased focus on governance and controls
The revised IPEV guidelines also expand and highlight the expectations of good governance within a strong valuation control framework for private capital investments. Combined with greater scrutiny from Limited Partners (LPs) on private equity valuations, GPs who have strong controls and processes to provide timely and accurate Fund valuations will be at an advantage.
At DealsPlus we offer a tech platform that powers investment management processes for private equity funds and their portfolios. If you would like to learn more, click here to reach out to us.