Fund managers today face a persistent challenge: balancing reasonable administrative costs with the need for reliable and defensible indications of value. When it comes to fair value measurements, the pursuit of efficiency often results in a reduction of valuation analytics. After all, time is money.
Within the valuation profession, three traditional approaches to value exist: the Cost (or Asset), Market, and Income Approaches. For both private equity and private credit investments, fair value estimates are frequently derived using a form of the Market Approach, where the most recent transaction or financing round serves as the starting point and is “calibrated” to reflect changes in market multiples and performance of the position between the transaction and reporting dates.
Private Credit: Complexity Beneath the Surface
At first glance, private credit valuation appears relatively straightforward. Consider a $100 million private credit investment with a five-year term and an annual coupon of 15 percent. The most basic valuation analysis might incorporate changes in risk-free rates and the yield curve since origination.
A more detailed analysis, however, goes significantly further. Changes in the issuer’s financial performance and creditworthiness should be evaluated to determine whether the investment’s risk profile has shifted. This is commonly accomplished through some form of “shadow rating” analysis, whereby market-based credit benchmarks are assessed and applied to the subject investment. Additionally, broader investor sentiment toward private credit as an asset class may impact required spreads and pricing. As investor demand fluctuates, pricing often adjusts accordingly.
While private credit investments are generally supported by the expectation of principal repayment at maturity, they remain exposed to movements in both borrower-specific risk and broader market conditions. Ignoring these factors can result in marks that no longer reflect current market participant assumptions.
Liquidity considerations can create further challenges. When investors seek redemptions, managers may be forced to choose between two imperfect outcomes: selling inherently illiquid assets at discounts to par or imposing redemption limitations consistent with expected principal and interest inflows. The former may create downward pricing pressure, while the latter can generate investor frustration.
In today’s market, we have observed both.
Private Equity: A Higher Degree of Uncertainty
Private equity faces many of the same valuation challenges as private credit, but with additional layers of complexity. Unlike debt investments, private equity valuations are heavily influenced by exit timing, operating performance, capital structure dynamics, and future growth expectations.
As holding periods continue to lengthen and market volatility persists, uncertainty surrounding exit values has increased. While calibrating prior rounds remains a useful starting point, reliance on historical transaction data alone is often insufficient. Valuation specialists must also consider shifts in market multiples, changes in capital costs throughout the capital structure, evolving investor return requirements, industry and macro-economic changes and the potential discount necessary to attract buyers in the current market environment.
Producing a reliable fair value estimate under ASC 820 requires more than simply updating a prior round of financing. It requires effectively repricing the investment based on today’s market conditions and the assumptions of current market participants. Although a calibration-only approach may be cost-effective, its reliability can deteriorate as market conditions, investor sentiment, and company performance diverge from the circumstances that existed at the time of the last transaction.
When market conditions move, marks must move with them.
Build Greater Valuation Confidence With CBIZ
CBIZ helps managers navigate valuation uncertainty through independent, market-based valuation analyses that balance efficiency with rigor. Whether you’re evaluating a single complex investment or reassessing an entire valuation framework, we can help ensure your marks remain aligned with market reality.
Connect with CBIZ to discuss your valuation challenges and explore how independent analyses can help strengthen confidence in your reported values.
In today’s environment, confidence in value can be just as important as value itself.
Frequently Asked Questions
ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The standard emphasizes a market-based approach, requiring managers to consider the assumptions that market participants would use when pricing an asset rather than relying solely on internal expectations or historical transaction data.
While recent transactions or financing rounds often serve as a starting point for fair value estimates, they may not fully reflect current market conditions. As markets evolve, managers should assess changes in company performance, credit risk, investor sentiment, market multiples, capital costs, liquidity, and other relevant factors. A comprehensive valuation approach helps ensure that reported values remain aligned with current market participant assumptions.
Calibration is a useful tool for establishing a baseline valuation based on a recent transaction. However, as time passes, company performance, market conditions, investor expectations, and liquidity dynamics can change significantly. When those factors diverge from the circumstances that existed at the time of the original transaction, relying solely on calibration may result in values that no longer reflect current market realities. Additional analysis may be necessary to support a reliable fair value estimate.
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