Private Market Valuation Practices – FCA findings

Private Market Valuation Practices – FCA findings

The FCA yesterday published its findings on a multi-firm review of valuation practices for private assets (the "Report").

The multi-firm review was announced last March in the FCA's "Dear CEO letter" on Asset management & Alternative Supervisory Strategy, and follows the PRA's Thematic review of private equity related financing activities in April 2024.

There has been a rapid growth of private markets in recent years – with the UK as the largest centre for private fund management in Europe. Private markets have become an important means for investors to diversify investment and seek new sources of return and for corporates to obtain long-term capital to finance growth.

But, as the FCA notes, private market assets don’t have the frequent trading and regular price discovery present in more liquid public markets, so firms must estimate private asset values using judgement-based approaches to meet applicable accounting standards.

The FCA is concerned that there is a risk that firms may not value private assets appropriately – for example, if conflicts of interests are not managed or where there is insufficient expertise. Investors need fair and appropriate valuations to make informed decisions and understand how their investments perform.

The FCA is keen that there are robust valuation practices to ensure fairness and confidence in private markets and notes two primary risks where firms use valuations:

• Pricing of transactions: use of valuations to price transactions may affect fairness between buyers, sellers, and remaining investors.
• Calculation of fees: use of valuation to calculate fees may introduce a risk of firms inappropriately charging investors.

The FCA will use its findings to:

• update the rules in the FCA Handbook as part of the FCA's review of the Alternative Investment Fund Managers Directive regime; and
• inform its contribution to the International Organization of Securities Commissions review of global valuation standards to support the use of proportionate and consistent valuation standards globally in private markets.

Key findings

The Report finds that firms generally demonstrated good practice in areas such as investor reporting, process documentation and use of third-party valuation advisers. It also found that firms were consistently applying valuation methodologies. However, the Report has found areas in which firms need to improve, including:

• better identification and documentation of potential conflicts of interest in the valuation process – for example: accurately documenting potential conflicts of interest in relation to the impact of valuation on fees paid by investors; clearly separating realised and unrealised valuation data in marketing materials; proactively identifying potential conflicts in relation to valuations and NAV financing
• increased independence within firms’ own valuation processes – for example: considering whether valuations used in asset transfers are appropriate; for open-ended funds that invest in private assets, whether periodic valuations are aligned with periodic dealing or fundraising windows; ensuring that remuneration incentives are appropriate bearing in mind the firm's approach to valuation; and maintaining the independence of valuation committees through limiting the voting involvement of investment professionals; and
• some firms to enhance processes for ad hoc valuations in times of market disruption – for example: incorporating a defined process for ad hoc valuations, including the thresholds and types of events that would trigger ad hoc valuations.

The FCA notes that improvements in these areas are particularly important with growing retail investor exposure to private assets.

What should firms do now?

Firms (i.e. asset managers) should consider the Report’s findings to ensure that their valuation processes are robust, with a strong governance framework and audit trail. The FCA will also expect that boards and valuation committees are given regular, sufficient information on valuations to ensure effective oversight.

This is in line with the FCA's expectations set out in its "Dear CEO letter" on Asset management & Alternatives - Supervisory Strategy (published on 26 February this year) that front ran the publication of the Report.