How much flexibility is too much in PE valuations?

A recent report shows GPs may have developed tricks to downplay the underperformance of some assets, resurrecting the question of how much wiggle room is needed in valuation processes.

By Hannah Zhang, CFA and Adam Le

It is often said that valuing private equity assets is more an art than a science. A report this week suggests some private equity managers are tilting more toward surrealism than landscapes or still life.

Various industry participants – including GPs, advisers and lawyers – have told us in recent years that a certain degree of flexibility is needed to value assets for efficiency and accuracy reasons. Too much wiggle room can also be problematic, especially in a down market where GPs may be incentivised to inflate the value of their underperforming assets.

Tech-enabled investment firm Clipway this week released research that echoes this concern. After studying more than 600 funds involved in LP portfolio sales on the secondaries market, the firm found a negative correlation between valuation multiples and earnings growth in companies backed by private equity sponsors. Companies with lower EBITDA growth tend to...

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