Private equity accounting is a process used by equity firms. These companies loan money to other businesses in the form of private investment or mezzanine capital. The different types of private equity accounting relate more to the tasks associated with these forms rather than following different guidelines. Accounting activities include cash management, fair value assessments, and adjusting investments to current market value. Accountants complete these tasks on a monthly and quarterly basis when working in a private equity firm.
Cash management is a large part of private equity accounting. Accountants must create an account that holds all transactions relating to the equity firm's available capital. These funds form the base of an equity firm's overall value. The balance sheet lists all assets the firm owns, starting with cash. The balance sheet reports the overall value of the investment company, which shows the value of the firm for a point in time, including current investments.
Accountants must record every transaction relating to cash so the equity firm knows how much it has available to lend. This private equity accounting process includes reviewing potential investments for money loaned to companies and cash receipts from gains on current investments. In larger equity firms, these types of accounting processes may be separate. The tasks are vastly different, requiring the need to keep them separate. These companies may also release changes in a cash statement for each period; this presents information on how the equity firm uses its capital.
Fair value assessment is an important task in private equity accounting. This accounting principle requires equity firms to look at their investments and change their value to the current market value. This process starts based on the equity firm’s total portfolio value. This is a tricky assessment as the range is quite vast for overall firm value, typically anywhere from $50 million US Dollars (USD) to $75 million USD. A more relevant range, however, is from $100 million and higher, relieving smaller equity firms from this detailed private equity accounting process.
Companies must review their current investments and determine what they could earn if selling investments in the open market. For example, a current investment may be worth $50 million USD when initially started. Under the fair value assessment rule in private equity accounting, however, the investment may now be worth $47 million USD. Accountants must write off the difference in value to recognize this change. They move the lost value from the investment accounts and take it against earnings, completing this accounting process.