The Saga Of Fair Market Value Continues

The saga of fair market value—a veritable thorn in the side of the private equity industry—took a new turn in recent months: Now that measures are in place to make buyout shops mark their goods to market, some industry leaders are pushing to nullify them.

First, let’s go back in December 2003: The two-year-old Private Equity Industry Guidelines Group, or PEIGG, created a new set of guidelines to help reduce inconsistencies in the measurement of private equity fund performance. The guidelines, like PEIGG itself, were created in response to the debacle that resulted when many venture capital firms infamously failed to write down their portfolio assets after the bubble burst.

The guidelines called for buyout firms to value portfolio companies on a quarterly basis based on how much the company would fetch were it sold that quarter. Firms had traditionally held their assets at cost.

But almost immediately, the private equity industry, which had a hand in creating PEIGG, expressed reservations. The group failed to secure the endorsement of the National Venture Capital Association. Even Kevin Delbridge, a managing director with prominent limited partner HarbourVest Partners and a PEIGG board member, conceded his firm would not summarily reject potential investments in firms that did not adopt the guidelines.

Fast forward to 2008. The Financial Accounting Standards Board has implemented FAS 157, which basically accomplishes what the PEIGG guidelines set out to do.

A Buyouts cover story in July that warned the regulations were likely to increase volatility is only more prescient today. It now seems as if the guidelines could not have come at a worse time for the buyout industry. With the economy descending into recession and a bear market gripping Wall Street, most companies are worth less than they were even a few months ago, let alone two years ago, when private equity was on a spending spree.

Accordingly, the market is hammering publicly traded buyout firms. The Blackstone Group reported a widening loss in the third quarter, in part because it lowered the carrying value of many of its investments. Not surprisingly, the leaders of the firm placed a fair amount of blame on FAS 157: “FAS 157 is aggravating and exaggerating the problem,” Tony James, president and COO, was quoted during a conference call.

Recently Blackstone CEO Stephen Schwarzman, along with some other Wall Street power brokers, was pushing for at least a temporary suspension of FAS 157, although that scenario seems unlikely, given that the depth of the credit crisis is only increasing government involvement in corporate America.