Private Equity Value Inflated
To keep up with high-performing fund managers, private equity firms with lesser reputations inflate their funds’ value during fund-raising periods, says research by the Harvard Business School. While previous research has found abnormally high private equity fund valuations during fundraising periods, ‘Private Equity Fund Valuation Management During Fundraising’ finds that private equity fund managers with less-than-stellar reputations overstate the values of their funds during fundraising. Because most of these investments are private companies that don’t have publicly available market prices, private equity firms can use different valuation techniques to determine the value of the fund. The paper says private equity firms most often apply multiples to their portfolio firm earnings, usually in the form of EBITDA (earnings before interest, taxes, depreciation, and amortization) or sales. They can then apply higher multiples or “manage the earnings of their investments” to appear more valuable than they really are to investors during fundraising periods.