The alternative investment fund (AIF) industry has welcomed recent suggestions by the Securities and Exchange Board of India (Sebi) to change the valuation norms heeding to demands of industry representatives with an aim to resolve valuation issues and relax guidelines.
On May 23, Sebi proposed that the valuation of unlisted securities held by Alternative Investment Funds (AIFs) be carried out as per the guidelines issued by the eligible industry association, and not as per Mutual Fund (MF) Regulations. The proposal is open for public comment till June 13.
The AIF industry association has endorsed the International Private Equity and Venture Capital Valuation Guidelines (IPEV Guidelines) for the proposed change. As AIFs invest in startups and early-stage private companies, experts believe the change was needed to address valuation gaps regarding the duration of holding, open or close ended nature of funds, and the frequency of investment valuation.
“These changes are a welcome step as they resolve some of the issues and gaps in AIF valuation norms. Earlier, there was an ambiguity regarding certain regulations that will be taken away if the paper is implemented,” said a member of the AIF industry who did not want to be named.
The AIF industry representatives pointed out that for valuing private investments, one needs to “present a fundamental valuation based on cash flows pertinent to the underwriting thesis, which MF guidelines do not cover.”
“In addition, the fundamental difference between investments by a MF and AIF is their holding period strategy. A MF holds its investments primarily as ‘AFS’ or ‘available for sale’ while an AIF typically holds its investment as ‘HTM’ or ‘hold till maturity’,” the AIF industry representatives said.
“AIFs hold investments in startups and private companies…where one looks at projections and forecasts among other things for valuing securities. The valuation methodology required for AIFs is very different from that of a mutual fund,” Natasha Treasurywala, partner at Desai & Diwanji said. If implemented, this will provide a better method of valuation for AIFs, she said.
AIFs invest at various stages of the life cycles of companies such as seed-stage, ‘asset-light’ stage, growth stage, and exit stage, on occasion in unconventional sectors with no tangible assets. The IPEV guidelines provide methodologies such as discounted cash flow and internal rate of return which provide a flexibility to choose a method based on the assessment of investee companies’ business models.
However, valuation of securities other than unlisted securities, non-traded, thinly-traded and those below investment grade, will continue to be done as per MF regulations.
