Accounting and Valuation Guide: Valuation of Portfolio Company Investments of Venture Capital and Private Equity Funds and Other Investment Companies PDF
Preview Accounting and Valuation Guide: Valuation of Portfolio Company Investments of Venture Capital and Private Equity Funds and Other Investment Companies
AAAccccccooouuunnntttiiinnnggg aaannnddd VVVaaallluuuaaatttiiiooonnn GGGuuuiiidddeee VVVaaallluuuaaatttiiiooonnn ooofff PPPooorrrtttfffooollliiiooo CCCooommmpppaaannnyyy IIInnnvvveeessstttmmmeeennntttsss ooofff VVVeeennntttuuurrreee CCCaaapppiiitttaaalll aaannnddd PPPrrriiivvvaaattteee EEEqqquuuiiitttyyy FFFuuunnndddsss aaannnddd OOOttthhheeerrr IIInnnvvveeessstttmmmeeennnttt CCCooommmpppaaannniiieeesss JJJuuunnneee 111,,, 222000111999 04/30/19 11:48 AM Accounting and Valuation Guide Valuation of Portfolio Company Investments of Venture Capital and Private Equity Funds and Other Investment Companies June 1, 2019 1811-5988 © 2019 by American Institute of Certified Public Accountants. All rights reserved. For information about the procedure for requesting permission to make copies of any part of this work, please email [email protected] with your request. Otherwise, requests should be written and mailed to Permissions Department, 220 Leigh Farm Road, Durham, NC 27707-8110 USA. 1 2 3 4 5 6 7 8 9 0 AAP 1 9 ISBN 978-1-94830-662-1 iii Preface About This AICPA Accounting and Valuation Guide ThisAICPAAccountingandValuationGuidehasbeendevelopedbytheAICPA PE/VC Task Force (task force). This guide provides guidance and illustra- tionsforpreparersoffinancialstatements,independentauditors,andvaluation specialists1,2 regarding the accounting for and valuation of portfolio company investmentsofventurecapitalfunds,privateequityfundsandotherinvestment companies.Thevaluationguidanceinthisguideisfocusedonmeasuringfair valueforfinancialreportingpurposes. The financial accounting and reporting guidance contained in this guide has been reviewed and approved by the affirmative vote of at least two-thirds of themembersoftheFinancialReportingExecutiveCommittee(FinREC),which is the designated senior committee of the AICPA authorized to speak for the AICPAintheareasoffinancialaccountingandreporting.Conformingchanges madetothefinancialaccountingandreportingguidancecontainedinthisguide willbeapprovedbytheFinRECChair(orhisorherdesignee).Updatesmade tothefinancialaccountingandreportingguidanceinthisguideexceedingthat ofconformingchangeswillbeapprovedbytheaffirmativevoteofatleasttwo- thirdsofthemembersofFinREC. Thisguidedoesthefollowing: • IdentifiescertainrequirementssetforthintheFASBAccounting StandardsCodification®(ASC). • Describes FinREC's understanding of prevalent or sole industry practiceconcerningcertainissues.Inaddition,thisguidemayin- dicate that FinREC expresses a preference for the prevalent or soleindustrypractice,oritmayindicatethatFinRECexpresses apreferenceforanotherpracticethatisnottheprevalentorsole industrypractice;alternatively,FinRECmayexpressnoviewon thematter. • Identifies certain other, but not necessarily all, industry prac- ticesconcerningcertainaccountingissueswithoutexpressingFin- REC'sviewsonthem. 1 Wordsortermsdefinedintheglossaryaresetinitalicizedtypethefirsttimetheyappearin eachchapterofthisguide. 2 Althoughthisguideusesthetermvaluationspecialist,VSsection100,ValuationofaBusi- ness,BusinessOwnershipInterest,Security,orIntangibleAsset,whichispartofAICPAProfessional Standards,definesamemberwhoperformsvaluationservicesasavaluationanalyst.Furthermore, theMandatoryPerformanceFramework(MPF)andApplicationoftheMPF(collectivelyreferredto asMPFdocuments)thatwerejointlydevelopedbytheAICPA,theRoyalInstitutionofChartered Surveyors(RICS),andtheAmericanSocietyofAppraisers(ASA),inconjunctionwiththeCertified inEntityandIntangibleValuations(CEIV)credential,defineanindividualwhoconductsvaluation servicesforfinancialreportingpurposesasavaluationprofessional.Thetermvaluationspecialist, asusedinthisguide,issynonymouswiththetermvaluationanalyst,asusedinAICPAProfessional Standards,andthetermvaluationprofessional,asusedinMPFdocuments. Manyprivateequityfundsandventurecapitalfundsemployprofessionalstoperformvaluations forthefund'sinvestmentsand,thus,thefundmayproducevaluationsinternally,ratherthanengag- inganexternalparty.Otherfundsmayengageanexternalthirdpartytoperformvaluationsorto corroboratethefund'svaluations.Whenreferringtothevaluationspecialistwithinthisguide,itis generallypresumedthatthevaluationspecialistmaybeeitheranexternalpartyortheindividual(s) withintheentitywhopossesstheabilities,skills,andexperiencetoperformvaluations. ©2019, AICPA AVG-PCI iv • Provides guidance that has been supported by FinREC on the accounting,reporting,or disclosure treatment of transactions or eventsthatarenotsetforthinFASBASC. AccountingguidancefornongovernmentalentitiesincludedinthisAICPAAc- countingandValuationGuideisasourceofnonauthoritativeaccountingguid- ance.FASB ASC is the authoritative source of U.S.accounting and reporting standardsfornongovernmentalentities,inadditiontoguidanceissuedbythe SEC.AICPAmembersshouldbepreparedtojustifydeparturesfromU.S.gener- allyacceptedaccountingprinciples,asdiscussedinthe"AccountingPrinciples Rule"(ETsec.1.320.001and2.320.001).3 ThisguideisconsideredtobetechnicalliteratureforpurposesoftheManda- toryPerformanceFramework(MPF)andApplicationoftheMPF(collectively referred to as MPF documents),that were developed in conjunction with the CertifiedinEntityandIntangibleValuationsTM(CEIVTM)credential.4Inaddi- tion,AICPAmemberswhoperformengagementstoestimatevaluethatculmi- nateintheexpressionofaconclusionofvalueoracalculatedvaluearesubject totherequirementsofVSsection100,ValuationofaBusiness,BusinessOwner- shipInterest,Security,orIntangibleAsset,whichispartofAICPAProfessional Standards. Thisguidedoesnotincludeauditingguidance;5however,auditorsmayuseitto obtainanunderstandingoftheaccountingrequirementsandthevaluationpro- cessapplicabletoportfoliocompanyinvestmentsofventurecapitalandprivate equityfundsandotherinvestmentcompanies. Recognition PE/VCTaskForce SeanMcKee,Co-Chair AmandaMiller,Co-Chair ScottBurger TravisChamberlain TimothyCurt DavidDufendach JohnFerro QuintinKevin DavidLarsen AdrianMills RaymondRath BelanneUngarelli 3 AllETsectionscanbefoundinAICPAProfessionalStandards. 4 Additional information about the CEIV credential and MPF documents is available at www.aicpa.org/membership/join/credentials.html?tab-1=5. 5 AU-Csection540,AuditingAccountingEstimates,IncludingFairValueAccountingEstimates, andRelatedDisclosures,inAICPAProfessionalStandardsaddressestheauditor'sresponsibilities relatingtoaccountingestimates,includingfairvalueaccountingestimatesandrelateddisclosures, inanauditoffinancialstatements. AuditorsmayalsofindithelpfultorefertotheAICPAAuditGuideSpecialConsiderationsin AuditingFinancialInstruments,which,amongotherthings,addressestheauditor'sresponsibilities relatingtoauditingaccountingestimates,includingfairvalueaccountingestimates,andrelateddis- closures. AVG-PCI ©2019, AICPA v AICPASeniorCommittee FinancialReportingExecutiveCommittee (memberswhenthiseditionwascompleted) JamesDolinar,Chair J.KellyArdreyJr. MichelleAvery CathyClarke MarkCrowley RichardDietrich WilliamFellows JoshuaForgione AngelaNewell MarkNorthan WilliamSchneider JaySeliber JeffSisk LynneTriplett JeremyWhitaker MichaelWinterscheidt AleksZabrevko (pastmemberswhocontributedtothisedition) AaronAnderson LindaBergen MuneeraCarr RickDay GautamGoswami RandolphGreen WalterIelusic MattKelpy JackMarkey SteveMoehrle BJOrzechowski DanitaOstling RobertOwens RichardPaul BernardPump PhillipSantarelli MarkScoles DustyStallings BrianStevens AngelaStorm MichaelTamulis The AICPA and the PE/VC Task Force gratefully acknowledge the follow- ing individuals and groups for their assistance in development of this guide: Chad Arcinue, Shaan Elbaum, Sally Ann Flood, Tracy Green, Michael Hall, Stephen Holmes, Jonathan Howard, Daniel Iamiceli, Deborah Jones, Travis Krueger,KevinLowry,MichaelMaher,MassimoMessina,RichardPeteka,Eric Rechtschaffen,AnneRockhold,AjayShah,RachelSimons,AdamSmith,Moez Virani,RichardWallaceandtheNCREIFPREAReportingStandards. ©2019, AICPA AVG-PCI vi AICPAStaff YelenaMishkevich SeniorManager AccountingStandardsServices MarkSmith SeniorManager ForensicandValuation DanielNoll SeniorDirector AccountingStandardsServices EvaSimpson Director ForensicandValuation Guidance Considered in This Edition RelevantguidanceissuedthroughMay1,2019,hasbeenconsideredinthede- velopmentofthiseditionoftheguide.However,thisguidedoesnotincludeall accounting,valuation,andotherrequirementsapplicabletoanentityorapar- ticularengagement.Thisguideisintendedtobeusedinconjunctionwithall applicablesourcesofrelevantguidance. In developing this guide, all guidance issued up to and including the follow- ingwasconsidered,butnotnecessarilyincorporated,asdeterminedbasedon applicability: • FASB Accounting Standards Update (ASU) No.2019-04,Codifi- cationImprovementstoTopic326,FinancialInstruments—Credit Losses,Topic815,DerivativesandHedging,andTopic825,Finan- cialInstruments • AICPA's Statement on Standards for Valuation Services No. 1, ValuationofaBusiness,BusinessOwnershipInterest,Security,or IntangibleAsset(VSsec.100) Usersofthisguideshouldconsiderguidanceissuedsubsequenttothoseitems listedpreviouslytodeterminetheireffect,ifany,onentitiesandengagements coveredbythisguide.Indeterminingtheapplicabilityofrecentlyissuedguid- ance,itseffectivedateshouldalsobeconsidered. FASB standards quoted are from the FASB Accounting Standards Codifica- tion ©2019, Financial Accounting Foundation. All rights reserved. Used by permission. AICPA.org Website TheAICPAencouragesyoutovisitthewebsiteataicpa.org,andtheFinancial Reporting Center at www.aicpa.org/frc. The Financial Reporting Center sup- ports members in the execution of high-quality financial reporting. Whether you are a financial statement preparer or a member in public practice, this center provides exclusive member-only resources for the entire financial re- porting process,and provides timely and relevant news,guidance and exam- plessupportingthefinancialreportingprocess.Anotherimportantfocusofthe AVG-PCI ©2019, AICPA vii Financial Reporting Center is keeping those in public practice up to date on issuespertainingtopreparation,compilation,review,audit,attestation,assur- anceandadvisoryengagements.CertaincontentontheAICPA'swebsitesref- erencedinthisguidemayberestrictedtoAICPAmembersonly. ©2019, AICPA AVG-PCI TableofContents ix TABLE OF CONTENTS Chapter Paragraph Introduction .01-.11 Background ................................................ .02-.05 Scope ...................................................... .06-.09 InformationIncludedinThisGuide .......................... .10 GuidetotheGuide ......................................... .11 1 OverviewofthePrivateEquityandVentureCapitalIndustry andItsInvestmentStrategies .01-.81 Introduction ................................................. .01-.13 InvestmentStrategiesandPortfolioCompanyLifeCycle ...... .14-.21 TypicalFundStructuresandRoleofFundManager .......... .22-.27 FundEntity(LimitedPartnership)—TheInvestment Company ............................................. .22-.24 Compensation,FundManagementFees,and CarriedInterest ........................................ .25-.27 InvestorBase ............................................... .28-.38 DefinedBenefitPensionPlans ............................ .30-.31 SovereignWealthFunds .................................. .32 DevelopmentFinanceInstitutions .......................... .33 EndowmentFunds ........................................ .34 High-Net-WorthIndividualsandFamilyOffices ............ .35-.37 FundsofFunds ........................................... .38 InvestmentHorizonandReturnConsiderations ............... .39-.45 Long-TermOrientation .................................... .39-.41 RiskTolerance ............................................ .42-.45 ImpactonPortfolioCompanyValuations ..................... .46-.57 Planningfor"Exits" ....................................... .46-.48 StrategicBuyers .......................................... .49-.51 PublicEquityMarketsandIPO ............................ .52-.57 ConsiderationsforEarly-StagePortfolioCompanies .......... .58-.73 ThePortfolioCompany’sStrategyandPositioning ......... .66 MarketOpportunity ...................................... .67 ProductAdoptionandCustomerBehavior ................. .68 CompetitiveLandscapeandPresenceofaFirst-to-Market Advantage ............................................ .69 RegulatoryApprovalandOtherGatingFactorstoMarket Access ................................................ .70 UseofSubjectMatterExpertsandAdvisers ............... .71 ExecutiveManagementandTheirTrackRecords ........... .72 MacroInvestmentEnvironmentfortheParticular Early-StagePortfolioCompany ......................... .73 RegulatoryEnvironment .................................... .74-.77 U.S.SecuritiesandOtherRegulation ...................... .75-.77 ©2019, AICPA Contents
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