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The equity method of private equity fund accounting is used to pull profits and losses from lower tier entities up to upper tier entities. This way, unrealized gains and losses can be properly reflected in quarterly statements and other reports, showing an accurate value of the portfolio.
Allvue’s Fund Accounting software solution meaningfully streamlines the equity pickup process. Our platform eliminates the need to manually key in GL entries for each entity during a financial close, saving teams a significant amount of time and reducing risk in the process.
The equity method of accounting is a process used to value one company’s investment in another company. The equity method is often used with the investor has significant influence in the investee, usually defined as an investment of between 20% and 50% and/or with representation on the board of directors.
When this is the case, profits and losses in the investee will affect the investor’s own balance sheet. P&L needs to be pulled up from the lower tier entities to the upper tier ones in order to accurately reflect the value. This is known as the equity pickup.
As an example, let’s say an investor owns a 30% stake in its investee. That share was purchased for $30 million.
If the investee earns $10 million dollars over the course of the next year, the investor will need to show its percentage of that profit as a line item on its income statement, in this example, $3 million.
The investor will also need to reflect this unrealized gain on its balance sheet for its investee, adding $3 million to the historical cost basis of the purchase price, $30 million, for a total of $33 million.
Similarly, debits have to be accounted for as well. If, at the end of the year, the investee also pays out a dividend of $100,000, the investor would show its portion of this, $30,000, as a reduction on its investment account balance sheet and a line item on its income statement.
Like many fundamentals of private equity fund accounting, standalone instances like this are relatively straightforward to account for. But as fund structures become more complex, so do these sorts of calculations.
Consider, for example, the following fund structure
Pulling P&L up a complicated fund structure like this, involving multiple currencies, quickly becomes a tedious and error-prone exercise. Trying to manage these workflows in legacy tools like Excel can simply exacerbate the issue and add operational risk.
Fund accounting teams need a better solution.
Allvue’s platform can help teams better manage complex accounting structures by streamlining workflows like equity method accounting, saving time and reducing risk.
Because Allvue is a fully-integrated, end-to-end platform, data is able seamlessly flow across stages of the investment life cycle and across processes and workflows.
Consider, for example, the complicated fund structure listed above.
Because the entities are connected in the system through a capital call chain, creating a ledger activity at one level kicks off a single continuous and automated process that kicks off corresponding ledger activities at each level in the structure, based on correct ownership percentages.
When interest income comes in on the lowest level, the Albion Water debt investment, Allvue’s solution can automatically create entries that need to be posted at each level of the structure for review and approval.
Additionally, Allvue allocates the income based on the correct currency – so, for example, listing the transaction generated at the AssetCo level in EUR, based on the GBP of the Albion Water holding – and provides full transparency into the target company at this level, which helps facilitate look-through reporting.
Equity method accounting doesn’t need to slow down your workflows or create added risk. Learn how Allvue’s Fund Accounting software solution can help empower superior investment decisions.
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