Valuation and reporting
ASC 820 applied to a private equity position, the calibration approach, and how a reporting lag changes a reported return.
A private equity NAV is an estimate produced by the party being measured, prepared under an accounting standard that asks for an exit price rather than a hold value. This section applies that standard to one position in the reference fund, shows what calibration does to the mark, sets out the reporting lines that make a NAV auditable by an LP, and quantifies what a one-quarter reporting lag does to a reported figure. Valuation method itself - discounted cash flow construction, comparable company selection, terminal value - belongs to a different reference; what is here is the part specific to a fund's own reporting.
ASC 820 fair value hierarchy applied to a private equity position
The hierarchy classifies by the observability of the valuation inputs, not by asset type and not by the confidence of the valuer. A controlling equity stake in a private company is a Level 3 measurement whatever the quality of the comparables used.
| Level | Inputs | Where a buyout fund's positions fall |
|---|---|---|
| Level 1 | Quoted prices in active markets for identical assets | Listed stock received in specie on an initial public offering, subject to any lock-up affecting whether the quoted price is the fair value of the restricted instrument |
| Level 2 | Observable inputs other than Level 1 quotes - quoted prices for similar assets, observable indices, broker quotes in a functioning market | Rare in buyout. A recent third-party transaction in the same security can support a Level 2 classification while it remains current |
| Level 3 | Unobservable inputs; the measurement reflects the reporting entity's own assumptions | The great majority of positions. Valued by a market approach using comparable multiples, an income approach using discounted cash flow, or a recent transaction price |
| Required Level 3 disclosure | Reconciliation of opening to closing balances, transfers in and out, quantitative information about significant unobservable inputs, and a description of the valuation processes | The unobservable-input table - the multiple range and the discount rate range - is the most informative thing a fund publishes about its marks |
Calibration on investment D
Investment D was acquired in year 3 for 100.0 of equity and realised in year 8 for 225.0. The calibration approach requires the valuation model to reproduce the transaction price at acquisition, and the adjustment implied by that requirement to be carried forward and reassessed at each subsequent measurement date.
| Measurement date | EBITDA | Comparable multiple | Calibration adjustment | Multiple applied | Enterprise value | Net debt | Equity fair value |
|---|---|---|---|---|---|---|---|
| Year 3, acquisition | 30.0 | 7.5x | +0.5 turns, implied by the transaction price | 8.0x | 240.0 | 140.0 | 100.0, equal to cost |
| Year 7, mark | 50.0 | 6.5x | +0.5 turns, carried forward | 7.0x | 350.0 | 145.0 | 205.0 |
| Year 7, without calibration | 50.0 | 6.5x | none | 6.5x | 325.0 | 145.0 | 180.0 |
| Year 8, realised | 56.0 | 6.5x achieved | not realised | 6.5x | 364.0 | 139.0 | 225.0 |
| Sensitivity at the year-7 mark | - | - | - | 1.0 turn | 50.0 | - | 50.0, or 24.39 percent of the 205.0 mark |
Three approaches to the same position at the year-7 measurement date
The three approaches applied to investment D at the end of year 7, when it is carried at 205.0 and will realise 225.0 in year 8. Inputs are assumed and chosen so each approach is reproducible; no claim is made that any is the correct answer.
| Approach | Inputs | Computation | Indicated equity value |
|---|---|---|---|
| Market approach, comparable companies | EBITDA 50.0, calibrated multiple 7.0x, net debt 145.0 | 50.0 x 7.0 - 145.0 | 205.0 |
| Market approach, uncalibrated | EBITDA 50.0, comparable multiple 6.5x, net debt 145.0 | 50.0 x 6.5 - 145.0 | 180.0 |
| Income approach, discounted cash flow | Free cash flow 30.0 growing at 4.00 percent, discount rate 11.00 percent, so a perpetuity value of 30.0/(0.11 - 0.04), less net debt 145.0 | 428.571 - 145.0 | 283.571 |
| Transaction price | No transaction since acquisition in year 3 | not available | not available |
| Recent transaction in the same security | None | not available | not available |
| Spread across the available approaches | - | 283.571 less 180.0 | 103.571, or 50.52 percent of the 205.0 carried value |
ILPA Reporting Template - the lines that make a NAV auditable
The ILPA Reporting Template standardises a partners' capital account statement and a schedule of fees, expenses and carried interest. The lines below are the ones an LP can tie to its own bank records and to the waterfall. Reference fund figures are the fund-level totals over the fund's life.
| Statement | Line item | Reference fund, life to date |
|---|---|---|
| Partners' capital account | Beginning balance | 0.0 at inception |
| Partners' capital account | Contributions - cash and non-cash | 500.0 |
| Partners' capital account | Distributions - cash and non-cash, split between return of capital and profit | 848.0, of which 500.0 is return of capital |
| Partners' capital account | Distributions subject to recall, stated separately | 0.0 in the base case; 100.0 if the recycling right is exercised |
| Partners' capital account | Total net operating income and expense | gross proceeds 935.0 less cost 425.0 less fees 66.2 less expenses 8.8 |
| Partners' capital account | Carried interest - accrued, paid, and reversed, shown separately | 87.0 paid under the whole-fund waterfall; 95.1176 paid and 8.1176 reversed under deal-by-deal |
| Partners' capital account | Ending balance, and unfunded commitment | 0.0 and 0.0 at termination |
| Fee, expense and carry schedule | Management fee gross, offsets applied, management fee net | 66.2 gross; 12.0 of assumed offsettable income; 54.2 net at a full offset |
| Fee, expense and carry schedule | Partnership expenses by category, including organisational costs | 8.8, of which 3.8 is organisational cost in year 1 and 0.5 per year is ordinary partnership expense in every year including year 1 |
| Fee, expense and carry schedule | Interest expense on fund-level borrowing, stated separately | 0.0 in the base case; 25.5 with a 12-month subscription facility |
| Fee, expense and carry schedule | Fees paid to the manager or its affiliates by portfolio companies | 12.0 assumed, whether or not offset |
| Performance | Gross and net IRR, and gross and net multiples | 17.2915 percent gross and 11.9825 percent net; 2.2000x gross MOIC and 1.6960x net TVPI |
What a one-quarter reporting lag does
A fund reporting a quarter-end NAV using portfolio company financials from the prior quarter reports a value one quarter stale. The table takes the reference fund's annual NAV path, implies a constant quarterly growth rate within each year, and reports the resulting misstatement.
| Year | NAV at prior year end | NAV at year end | Implied quarterly change | One-quarter-lagged mark | Misstatement | Effect on reported TVPI |
|---|---|---|---|---|---|---|
| 6 | 545.0 | 615.0 | +3.0670% | 596.6992 | -18.3008, or -2.9757 percent of NAV | -0.0375x on 487.5 of paid-in |
| 7 | 615.0 | 395.0 | -10.4779% | 441.2316 | +46.2316, or +11.7042 percent of NAV | +0.0938x on 492.8 of paid-in |
Entries
ASC 820 fair value applied to a private equity position
The requirement to measure an investment at the price that would be received to sell it in an orderly transaction between market participants at the measurement date. It is an exit price at a date, not a hold-to-maturity value and not the manager's view of what the asset is worth to it.
| Field | Value |
|---|---|
| Formula | Market approach: equity fair value = multiple * metric - net debt. Income approach: equity fair value = present value of free cash flow at the required return, less net debt |
| Worked, market approach | Investment D at the end of year 7: 50.0 of EBITDA at a calibrated 7.0x is a 350.0 enterprise value; less 145.0 of net debt gives 205.0 of equity |
| Worked, sensitivity | One turn of multiple is 50.0 of enterprise value and 50.0 of equity, being 24.39 percent of the mark. A disclosed multiple range therefore converts directly into a value range |
| Level | Level 3. The inputs - the multiple selected, the calibration adjustment, the EBITDA definition - are all unobservable |
| The exit-price test | The mark of 205.0 held at year 7 against a realisation of 225.0 in year 8 is an 8.89 percent understatement, which for a Level 3 mark on a controlling position one year from exit is a reasonable outcome |
- The most valuable disclosure in a private equity financial statement is the quantitative table of significant unobservable inputs, because the sensitivity arithmetic is one line. A portfolio marked at a weighted average multiple materially above the disclosed comparable range is internally inconsistent, and the inconsistency is computable from the statement.
- Net debt does the work that nobody looks at. Equity value moves one for one with net debt, so a mark can change materially with no change in the multiple or the earnings. Ask for the net debt at each measurement date alongside the multiple.
- Rule 2a-5 under the Investment Company Act places responsibility for fair value determination on a registered fund's board with permitted designation to the adviser. It does not apply to a private fund relying on section 3(c)(1) or 3(c)(7), where the valuation policy in the LPA and the auditor are the only governance.
Source: FASB ASC 820, Fair Value Measurement.
The calibration approach
Requiring the valuation model to reproduce the transaction price on the acquisition date, then carrying the implied adjustment forward and reassessing it at each subsequent measurement date. It prevents a day-one gain or loss and forces the valuer to state why the price paid differed from the observable comparables.
| Field | Value |
|---|---|
| Formula | Calibration adjustment = multiple implied by the transaction price - the comparable multiple at acquisition. Subsequent marks apply the comparable multiple plus that adjustment, unless the reason for it has ceased to apply |
| Worked, acquisition | Investment D: 30.0 of EBITDA and 140.0 of net debt for 100.0 of equity implies an 8.0x entry multiple. Comparables were at 6.5x to 7.5x, so the transaction price implies +0.5 turns over the top of the range |
| Without calibration | Marking at the 7.5x comparable on day one would give 30.0 * 7.5 - 140.0 = 85.0, a 15.0 day-one loss on an asset just purchased at arm's length |
| Worked, carried forward to year 7 | Comparables at 6.5x plus 0.5 turns gives 7.0x, so 50.0 * 7.0 - 145.0 = 205.0. Uncalibrated the same inputs give 180.0 |
| What the exit showed | Investment D realised at 6.5x, exactly the comparable multiple. The 0.5-turn premium was never realised, so the year-7 mark of 205.0 carried 25.0 of adjustment that the sale did not support |
- Calibration solves the day-one problem and creates a second one: the adjustment persists until someone decides it should not. The discipline is to state at each measurement date what the premium is for - a control position, a synergy, a growth profile the comparables do not have - and to remove it when the reason expires.
- In the worked case the adjustment survived to the final mark and did not survive the sale. That is the normal failure and it is why the useful test is not whether the mark was calibrated but whether the calibration adjustment has ever been reduced.
- A calibration adjustment above the top of the comparable range is a statement that the fund overpaid or that the comparables are wrong. Either is possible; both should be written down in the valuation memorandum rather than embedded in a multiple.
Source: FASB ASC 820 requires calibration of unobservable inputs to the transaction price at initial recognition where the transaction price is fair value.
Comparables, discounted cash flow, and transaction price as marks
The three routes to a Level 3 equity mark. They are not alternatives to be averaged; they carry different information and disagree in a way that is itself the useful output.
| Field | Value |
|---|---|
| Formula | Market approach: V = x * EBITDA - ND. Income approach: V = sum of FCF_t/(1 + r)^t + terminal value - ND. Transaction approach: V = the price in a recent orderly transaction in the same instrument |
| Worked, three answers on investment D at year 7 | Comparables calibrated 205.0; comparables uncalibrated 180.0; a perpetuity on 30.0 of free cash flow growing at 4.00 percent discounted at 11.00 percent gives 428.571 of enterprise value and 283.571 of equity |
| Spread | 103.571 between the highest and lowest available indication, being 50.52 percent of the 205.0 carried value |
| What the exit resolved | 225.0. The uncalibrated comparable was 20.0 low, the calibrated one 20.0 low, and the income approach 58.571 high |
| Transaction price | Unavailable here, because there has been no transaction in the security since year 3. A stale transaction price is not a fair value input |
- A spread of 50 percent of carrying value between methods is not a failure of the valuation; it is the honest width of the estimate. A valuation memorandum that reports a single number without the spread has discarded the most informative thing it computed.
- The income approach is the one most sensitive to a single assumption. At a 4.00 percent growth rate and an 11.00 percent discount rate the denominator is 0.07, so a one-point change in either input moves the enterprise value by roughly 14 percent. That sensitivity is why the market approach dominates buyout marks in practice.
- A transaction price is the strongest available input on the day it happens and decays quickly. The useful question is not whether there was a transaction but whether market conditions and the company's performance have changed since it, and that is a judgment that has to be written down.
Accrued carried interest in the reported NAV
Carried interest the GP would be entitled to if the portfolio were realised at its carrying value, accrued as a liability of the fund and deducted in arriving at LP net asset value. It is an estimate resting on an estimate, and it reverses if marks fall.
| Field | Value |
|---|---|
| Formula | Accrued carry = k * max(0, (cumulative distributions + NAV) - PIC - unpaid preferred return), computed as if the fund liquidated at NAV on the reporting date |
| Worked, year 6 | Assume the fund liquidates at its 615.0 NAV. Unreturned capital is 347.5 and unpaid preferred return 119.320. Return of capital 347.5, pref 119.320, catch-up 29.830 to the GP, then 80/20 on the remaining 118.350 |
| Accrual | 29.830 + 0.20 * 118.350 = 53.500, which is 0.20 * (615.0 - 347.5) as the identity requires |
| Effect on reported LP NAV | 615.0 of gross NAV less 53.500 of accrued carry is 561.500 of LP NAV, so RVPI net of accrued carry is 1.1518x rather than 1.2615x |
| Sensitivity | Marks 20 percent lower take NAV to 492.0 and the accrual to 25.180 - a 28.320 reversal on a 123.0 fall in value. The accrual reaches zero at a NAV of 466.82, a 24.09 percent decline |
- An accrued carry line that has never reversed on a fund whose marks have moved is worth a question. The accrual is highly non-linear in the marks: on the reference fund at year 6 a 20 percent decline in NAV takes the accrual from 53.500 to 25.180, and a 24.09 percent decline takes it to zero.
- Whether a fund reports NAV gross or net of accrued carry changes RVPI and TVPI, and both presentations exist. The reference fund's 1.2615x RVPI at year 6 is gross of the accrual; net of it, 1.1518x. Check which convention a report uses before comparing two funds.
- The accrual is also the number that reveals where the fund sits in its own waterfall, which no other line in the report states. An accrual of zero on a fund reporting a 1.5x TVPI means the pref has not been cleared, and that is useful to know.
Management fee and expense disclosure
The schedule reconciling gross management fee to net, listing partnership expenses by category, disclosing fees received by the manager or its affiliates from portfolio companies, and stating interest on fund-level borrowing separately.
| Field | Value |
|---|---|
| Formula | Net management fee = gross fee - offset credit applied. Total cost borne by the LP = net fee + partnership expenses + fund-level interest + carried interest |
| Worked, gross to net fee | 66.2 of gross management fee on the reference fund, less any offset credit. At a full offset of 12.0 of assumed portfolio-company fee income, 54.2 net |
| Partnership expenses | 8.8 over the fund's life: 3.8 of organisational cost in year 1 plus 0.5 per year of ordinary partnership expense in each of the ten years |
| Fund-level interest | 0.0 in the base case. 25.5 with a 12-month subscription facility, which is the entire cost of a 154.2 basis point improvement in the reported net IRR |
| Affiliate fee income | 12.0 assumed, disclosed whether or not it is offset - the disclosure is what makes the offset checkable |
- The single line that matters most and is most often absent is fund-level interest expense. It is the price of the subscription facility, and it is the number that lets an LP size the IRR distortion without recomputing anything.
- Expenses charged to the fund rather than to the manager are the largest genuinely negotiable item after the fee itself. The categories worth reading are broken-deal costs, the cost of the manager's own operating partners and in-house resources, technology and data costs, and the cost of the fund's own regulatory compliance.
- Organisational costs are normally capped in the LPA and the cap is normally hit. On the reference fund 3.8 in year 1 is 0.76 percent of commitments; whether a cap exists and where it sits is a term worth checking rather than assuming.
Source: ILPA Reporting Template specifies the fee, expense and carried interest schedule and the partners' capital account statement.
Who determines the mark, and what an LP can verify
In a private fund the valuation policy in the LPA, the GP's internal process, and the annual audit are the whole of the governance. There is no board and no statutory fair value process, so the verifiable items are procedural.
| Field | Value |
|---|---|
| Formula | Independent check on any disclosed mark: equity value = disclosed multiple * disclosed portfolio metric - disclosed net debt. Any gap against the carrying value is the unexplained residual |
| What is verifiable | That the auditor issued an unqualified opinion; that the Level 3 reconciliation and unobservable-input tables are present; that the valuation policy is written and has not changed; whether an independent valuation firm is engaged and on what scope |
| What is not verifiable from the report | Whether the multiple selected sits inside the comparable range; whether the calibration adjustment has been reassessed; whether marks were rolled forward for post-period events |
| Worked, the computable check | Take the disclosed multiple range and the disclosed portfolio EBITDA and reproduce the aggregate NAV. On investment D at year 7, a 6.5x comparable gives 180.0 against a 205.0 carrying value - a gap the report should explain |
- An independent valuation firm engaged to provide a positive assurance opinion on the marks is a materially different arrangement from one engaged to provide a range within which the GP may select. Ask which, and ask whether the scope covers every position or a sample.
- The audit tests process and material misstatement at the fund level. It is not a position-by-position revaluation, and an unqualified opinion is consistent with individual marks that later prove wide of the realisation.
- The most useful thing an LP can build is its own history of last-mark against realisation, by investment, across the manager's prior funds. It requires only data the LP already receives and it is the only measure of a manager's marking behaviour that does not rely on the manager's own description of its process.