Following the coronavirus pandemic, there has been a lot of attention on how funds value their unlisted assets. At the recent Frontier Advisors Annual Conference, AustralianSuper explained what it regards as key to good practice.
Last month, the Australian Prudential Regulation Authority (APRA) released the findings of a survey of 45 superannuation funds (Registrable Superannuation Entities (RSE)) in which they were asked via a questionnaire to assess their practices around the valuation of unlisted assets.
APRA found that funds scored well on the checks and controls they had in place to ensure valuations fell within an expected reasonable range and unlisted asset valuations were an area of focus in internal audit plans, as they should be.
But the prudential regulator also identified some room for improvement.
One of these areas was the extent of board scrutiny of unlisted asset valuations, especially in regards to the question of whether the board had ever challenged either management or external parties about valuation estimates.
This was particularly a problem among platform trustees and smaller funds.
The APRA survey found that when asked whether there have been instances of the board (or relevant board-delegated committee) challenging, rejecting and/or overriding valuations provided by management since 1 July 2022, only eight out of 45 funds said this had been the case.
The response to the questions of whether boards had ever challenged valuations by external parties was a bit better: 18 funds indicated this had occurred.
During a breakout session at the Frontier Advisors Annual Conference, held on 20 June in Melbourne, the question was raised to what extent the board should get involved in the valuation of unlisted assets.
Helen Lagis, Principal Valuations at AustralianSuper, argued that for larger funds, such as AustralianSuper, delegation was key to ensuring a workable process, while maintaining good investment governance.
Lagis established the valuations team in 2021 and has expanded it to 13 people in Australia, plus several people in the United Kingdom.
She also represents the team on the fund’s valuation committee, which is responsible for reviewing and approving all of the unlisted valuations.
The committee also includes the Chief Financial Officer, Chief Risk Officer, Head of Asset Allocation, an independent member and an independent adviser.
This committee then interacts with the board on various valuation matters.
“What we do at AustralianSuper is I present to the board quarterly on valuations. We also do an education session with our board and they ask lots of questions on different investments,” Lagis said.
“I bring things to them that are topical. So that’s the way I feel we extinguish our responsibility.”
She argued the recent APRA survey showed the effects of size in the results.
“When you have a look at the breakdown of the data, it’s almost a dichotomy of two worlds. You’ve got the larger funds that do have the resources and have the breadth of the unlisted portfolio as it is,” she said.
“They can afford the benefit of scale to do what I’ve done at AustralianSuper and the like.
“For the small funds, it will be a challenge. They’ve got a much heavier reliance on what they call platform investments and platform investing and external managers. It’s going to be a challenge for them.”
Challenging External Valuations
Challenging an external valuer or manager’s estimates of what an asset is worth is a key component of good investment governance, Lagis said. Valuation processes should certainly not be seen as a tick-the-box exercise, but as an opportunity to identify any flaws in the accuracy of the valuations.
“For me, it’s being mindful that any valuation oversight shouldn’t just be a routine acceptance of somebody’s view on value, whether it’s an external manager or whether, indeed, it’s an independent external valuer,” she said.
“You must, as an RSE licensee, have that responsibility to review and appropriately base a valuation mark before you put it into your pricing.”
There are a number of reasons why an out-of-cycle valuation might be triggered and these reasons need to be well defined in the valuation process.
“You must also be very responsive to market movements, volatility and asset triggers, and have well-defined triggers and responses to loads of issues, whether it’s volatility, whether it’s member switching, whether it’s other kinds of market metrics that you believe mean that the carrying value of your material assets has moved so it’s no longer fair value,” Lagis says.
“You have a responsibility to value pretty quickly. So how quickly funds respond to these kinds of macroeconomic events or even asset-specific events is very fundamental, I’d say.
Last year, APRA updated its Superannuation Prudential Standard 530, which for the first time included legally enforceable requirements around valuation governance and requires funds to value assets at least quarterly.
This requirement is somewhat problematic when it comes to holdings with United States-based private equity managers, which are not subject to Australian regulations and where valuation practices are such that they have historically valued assets less frequently.
Lagis acknowledged this is still an issue, but that improvements were visible.
“They’ve definitely started. So the larger ones are doing quarterly valuations, most often internally and probably once a year externally,” she said.
“But what we’re doing with our private equity portfolio, we’ve got one component that’s our co-underwrites. That’s a direct investment alongside a GP (General Partner) into a particular private equity or into a company.
“We do our own independent valuations for those co-underwrites. We don’t take the GP’s mark.
“For our fund investments, we do take the GP mark, but we do agitate along the way. Also on our way into a transaction as part of the onboarding due diligence, it’s our opportunity to have a look at what the valuations have been previously.
“We do override, from time to time, an external manager’s mark. But it’s not common.”
The valuations team are not part of investment decisions on whether to buy or sell an asset.
“That’s never going to be the valuation team’s decision because … there is real independence [from the investment team]. But we do lean into the transaction process, if it’s an external manager, to review the valuation policy and comment on that policy and to understand the ongoing valuation practice and then on the ongoing due diligence of a particular manager,” Lagis said.
Key Points of Good Governance
Frontier Advisors recently published a report into investment governance, which also covered valuation methods of unlisted assets. But good governance can differ from organisation to organisation, Sarah Cornelius, Head of Investment Governance at Frontier, said.
“We’ve seen the use of valuation committees and board oversight, and in some cases that’s really just reviewing an existing structure, ensuring there’s the right, functional independence between the people making the investment decisions and those making decisions around the valuation,” Cornelius said at the conference.
Yet, there were a number of universal points that funds should look out for, including how they define trigger points of more frequent valuations.
“Another [key point] is the out-of-cycle valuation and approach to interim valuations. That’s been quite a heavy focus by the regulator and that’s certainly one area that it’s important to have a key policy around and then understanding the accountabilities there,” Cornelius said.
In its survey of the industry, APRA asked which triggers would cause more frequent revaluations under the RSE licensee’s valuation governance framework. The most common mentioned trigger was ‘increased market volatility or stress’.
But this was closely followed by other triggers, including:
● Significant changes in the outlook for an asset or its operating conditions,
● Global or market-specific crises, and
● Movements in comparable assets.
Cornelius said funds should be thinking about the nature of the triggers in order to consider a revaluation and whether they are asset-specific triggers or whether they are broad, market-based triggers.
“When you’re thinking about triggers, as a general principle, there should be something that’s specific and measurable, but also flexible enough that they allow for the kind of normal market fluctuations as well,” she said.
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