Asset Management Intelligence - February 2015 - Accounting Considerations in the Valuation of Restricted Securities


Improving expectations on economic conditions have opened the spigot on public offerings by private equity-backed portfolio companies in the public capital markets. Ordinarily, one would expect that the availability of a public market price on a security would simplify the arithmetic in the estimation of fair value for financial reporting purposes. However, financial officers and auditors should give careful considerations to the applicable securities laws when determining the valuation of portfolio securities held in companies that have recently undertaken a public offering of either debt or equity securities.

The guidance in ASC 820 states clearly that the effect of resale restrictions on securities (legal or contractual) that are a characteristic or attribute of the security should be considered in the determination of that security’s fair value.
In the United States, securities that are the subject of an effective registration statement (under either forms S-1, S-3 or S-8) can be freely traded in a public securities market. Where an investment company holds registered securities in its portfolio, valuation using PxQ methodology is appropriate.

However, financial officers and auditors should be aware that not all portfolio equity securities held by a financial sponsor may be registered. Securities that are not registered are restricted under federal securities laws, and accordingly cannot be freely traded on a public securities market. Restricted securities, for example, securities acquired pursuant to one of the transactions specified in Rule 144(a)(3) of the Securities Act of 1933, include all securities acquired from an issuer in a transaction not involving any public offering. Furthermore, financial officers and auditors should be aware that in valuing these restricted securities, the guidance of ASC 820 requires that they consider and evaluate the effect of the attribute restriction in determining the value of the security.

Financial officers should carefully consider the effect of these attribute restrictions of securities laws in the valuation policies adopted by the funds they administer, and should be cognizant of the fact that securities laws differ, sometimes in material respects across jurisdictions. In the European Union, for instance, it is a condition of obtaining admission of securities to a regulated exchange, such as the London Stock Exchange or the Frankfurt Stock Exchange (Börse Frankfurt) that (i) the application for admission relates to the whole class of securities, and (ii) the securities be freely transferable (subject to very limited exceptions). Accordingly, adopting and applying a singular valuation policy to all geographic markets where the funds may trade may not be appropriate.

Market Data

Asset Management Intelligence - February 2015

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