Scrutiny Increasing on Energy Private Equity Valuation

In the last few years, private equity (PE) investment valuations have come under increased scrutiny from oversight and regulatory bodies.

In 2020, between the COVID-19 pandemic and rising tensions between Russia and Saudi Arabia, little in the market indicates regulatory bodies will move their focus from private equity investment valuations any time soon. In fact, this year saw the U.S. Securities Exchange Commission (“SEC”) move to propose an update to its rules on valuations that haven’t been updated in more than 50 years.

“When the SEC speaks, people listen,” Kevin Cannon, Director at Opportune LLP, says. “I think it speaks volumes about where they think the private equity industry overall is going and the interest that they feel that private equity is continuing to attract.”

That doesn’t need to be reason to fear for fund valuation managers, but finding someone who understands the demands will be critical.

“I think when you talk about increased scrutiny, obviously that means there’s increased documentation requirements and an increased amount of work involved; the extent of which really depends on how the industry regulates itself,” says Paul Legoudes, Managing Director at Opportune LLP. “If funds and third-party valuation providers provide valuation analysis and opinions that are more reflective of current market conditions, there’s probably going to be fewer rules that ultimately come out.”

Legoudes and Cannon have been on both sides of the audit review table, appraising energy private equity investments and also working as appraisal reviews assisting audit teams.

“I think it kind of gives us a unique perspective on what auditors typically look for and I think it helps us in our situation to be better advisers to our clients too. [We’re] able to give them the advice they need to navigate this process which, as we’re seeing now, probably is going to get potentially a little tougher as we head into the next audit season,” Cannon says.

All of this means that energy-focused private equity fund managers should develop processes and procedures to perform fair value analyses in support of their energy-related investments that are based on supportable market participant-derived assumptions.

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