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Alternative Investment Valuation ServicesThe issuance by FASB of Topic 820 (formerly FAS 157) created a new fair value standard for all asset classes including alternative investments. Over the past couple of decades, alternative investments became an increasingly popular investment class for endowment funds, retirement plans, and funds managed by not-for-profit organizations because they had low correlations with the rest of the market and were used to diversify large investment portfolios. The recent financial crisis exposed many entities to investments that are now illiquid and hard to value, and yet they must still meet the rigorous requirements of fair value under Topic 820. Measuring the fair value of alternative investments for the purposes of meeting Topic 820 can be difficult and uncertain due to lack of liquidity and limited pricing transparency, both which pose significant oversight problems to fiduciaries and their auditors.Description of Alternative InvestmentsMany market participants believe that alternative investments have a very narrow definition and do not include traditional asset classes. In fact, alternative investments include traditional asset classes such as private equity (both common and preferred stock issued by private companies) and fixed income securities, as well as guaranteed investment contracts (GICs), collateralized mortgage obligations (CMOs), collateralized debt obligations (CDOs), some types of mortgage backed securities (MBSs), real estate funds, hedge fund investments, and private equity funds or fund of funds. Unlike marketable securities, which trade over-the-counter or on an exchange where prices are readily available, alternative investments are generally illiquid and not traded. To speak to a Topic 820 expert, call at 1-866-200-9012.Valuing Alternative Investments to Meet Topic 820 RequirementsA key objective of Topic 820 is increased transparency in financial reporting, which puts a rigorous fiduciary burden on managers of public and private investments. Although a fiduciary can accept quarterly valuations from alternative investment managers such as private equity and hedge fund, independent studies have proven that fund managers have a bias of reporting inflated valuations of ongoing investments. They are motivated to inflate valuations because their compensation is performance-based and they can get away with inflating valuations because alternative investments are opaque and thus values are difficult to substantiate. Although it may be expedient to simply pass along the values from the hedge fund manager, best practices suggest that each reporting entity should produce its own fair value valuations or should get timely, accurate information from an independent source that has no financial interest in the valuation. In order to adequately meet the new reporting and valuation requirements under Topic 820, the reporting entity must now demonstrate that a specific process is being followed in order to determine the fair value of an asset. The AICPA has established guidelines for a process that fiduciaries should follow as best practices. To learn more about how DerivActiv professionals can help your organization with Topic 820 compliance, call 866-200-9012. Contact us to request a free demonstration.Alternative Investment Portfolio ReplicationValuing alternative investments under Topic 820 is much more challenging since market prices are often unavailable, or if available they may be stale, or may not reflect an actual transaction. In addition, hedge fund managers often provide limited information about asset values. DerivActiv, through its partnership with Axiom Valuation Solutions, performs a Replicating Portfolio Test and Process that produces Topic 820 compliant valuations. Our Replicating Portfolio process uses information provided by the asset manager such as asset type, geography, industry distribution, leverage, etc. that allows us to replicate the portfolio using publicly traded securities having the same attributes. We are able to replicate both the returns and fair value of the target portfolio using this method. Our valuations can be relied upon by fiduciaries for all types of hard to value investments, including alternative investments, and our process has been approved by the auditing community. If you are interested in learning more about Topic 820 (formerly FAS 157), you can download a Topic 820 white paper here. |
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Topic 820 Arbitrage Theory Topic 820 Due Diligence Topic 820 Porfolio Replication Topic 820 Porfolio Valuation Topic 820 Alternative Investments Topic 820 Valuation Topic 820 Investment Services Topic 820 Factor Loadings Topic 820 Fair Value Services Topic 820 Alternative Investments Topic 820 Verification |
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