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Perspectives

The private equity industry faces increasing scrutiny

Improving transparency of equity valuation methods

How will valuation be the cornerstone of private equity industry performance in the future? Discover why the equity valuation methods a firm employs, the objectivity and transparency of its approach, and the ability to stand up to demanding operational due diligence will become increasingly important for organizations.

Valuation and private equity firms: Ready for growing scrutiny?

Recent attention from several quarters has cast a bright light on the private equity (PE) business. From accounting treatments and returns to political rumblings for industry overhaul, the private equity industry has faced the scrutiny of its performance and practices.

Beyond the headlines, private equity’s role across the financial landscape continues to grow. PE deal activity has more than doubled in the past 10 years. Meanwhile, the number of companies listed on US stock exchanges has fallen by 50 percent over two decades.

As private equity industry activity expands, so too does investor and regulator interest in how firms establish the value of their portfolio companies. Valuation—what a company is worth today—is arguably the single most important component of PE financial reporting. And it will remain preeminent as the longest US economic expansion in history continues or, sooner or later, wanes. Transparency into how fund managers establish, govern, and carry out their equity valuation methods will be increasingly important to the spectrum of PE stakeholders for the next several years.

Valuation comes to the fore

As an alternative to public listing, a PE firm provides portfolio companies with needed capital and ownership opportunities. It also delivers the firm’s business experience, insights, and guidance to help those businesses pursue growth.

Further fueling interest in the private equity industry, the US Securities and Exchange Commission has signaled it will seek public comment on whether to lower the $200,000 annual income and $1 million net worth requirements for investors in PE funds. While these changes may be years away, or may not even come to fruition, such consideration acknowledges PE firms’ interest in greater access to retail investors.

Whatever the arc of such a shift, firms would face new disclosure, inspection, and review requirements. And if the investor base expands in this manner, over the next three to five years valuations will likely continue to be the most important metrics of PE performance. How will leading firms be setting them?

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Three considerations for the private equity industry

Valuation: A cornerstone of private equity industry performance

PE firms can expect increased scrutiny as they expand their portfolios, pursue returns, and cultivate new investors. Valuation provides a clear measure of how well a firm identifies investment opportunities, recruits investors, elevates portfolio company performance, and, ultimately, delivers value. The equity valuation methods a PE firm employs to arrive at its valuation, the objectivity and transparency of its approach, and the ability to stand up to rigorous operational due diligence will become increasingly important in the next two to three years.

Valuation graph
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