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What is private equity accounting?

Private equity is a unique form of investment that focuses on businesses in a very particular set of circumstances. While the business receiving investment may find itself in need of financial recovery, the success of a private equity fund depends as much on the expertise and experience of the investor as it does on the money changing hands. The unique nature of private equity means that accounting for private equity funds is also a specialised form of accounting - requiring a certain eye for detail and a full understanding of how a private equity fund is structured. While venture capitalism might be the more traditionally risky form of investment, private equity carries its own set of risks and these need to be closely monitored and managed by an accounting team in order to maximise the reward for all parties involved.
Private equity accounting software

What are private equity funds?

There are a number of forms of investment that can be termed as private equity, and venture capitalism (investing money into a promising start-up business early in its growth) is often one of them. Indeed, any direct investment in another company can come under the umbrella of this terminology.

However, the term “private equity” usually refers to investment in a mature company that is well past the initial growth stage, rather than a burgeoning startup. These companies are, by definition, private companies that are not listed on a public stock exchange.

The business is usually in some form of trouble for private equity to be necessary, so an outside investor may come in and make improvements to the way a company is structured and then sell it on at a profit. Successful and effective private equity CFOs will always focus on this as the eventual goal of any investment.

For this reason, private equity (as described in this context) involves the investment of a significant amount of money, often in the tens of millions, while venture capitalists may invest a smaller amount due to the perceived higher level of risk.

How is private equity accounting different?

As outlined above, private equity accounting is different from many other forms of accounting. While any type of company needs to keep a close eye on its incomings and outgoings, there are particular considerations involved in private equity accounting.

This is because a private equity firm (ie. a company which has received private equity investment) is making purchases with a third party’s funds rather than its own funds. For this reason, private equity accounting is also referred to as partnership accounting. A private equity firm may be referred to as a limited partnership fund.

There are a number of ways in which accounting for a private equity firm can be differentiated from other types of accounting:

  • A limited partnership fund takes a particular legal form - legal partners, general partners and founder partners all have their own rights and responsibilities, making the picture more complicated as there is a greater number of stakeholders involved.
  • The purpose and activities of a private equity fund are unique, as are the reporting requirements of those operating it. Financial statements require a unique and complex set of information from several different sources.
  • The accounting terms as outlined in a limited partnership agreement, and the unique accounting framework used only for private equity firms, set the process apart from comparably structured firms such as hedge funds.

The uniquely complex and legally demanding nature of private equity accounting makes it especially beneficial for private equity firms to look at using automated accounting software, such as our private equity and venture capital accounting software. This can streamline and simplify the process, ensuring that all accounting activity is compliant with requirements and covers every aspect that it needs to.

What’s the difference between private equity funds and hedge funds

Private equity funds invest directly in companies, primarily by purchasing private companies. These funds focus on the long-term growth potential of the companies they acquire. Hedge funds, on the other hand, use pooled funds to employ various strategies in order to make a return. The main aim of hedge funds is to provide the highest investment returns as quickly as possible.

What are the challenges of private equity accounting?

Because private equity accounting differs from other forms of accounting, it brings its own set of challenges which are not always straightforward to overcome. These include:

  • “Waterfall calculation models” which ensure everyone involved in an investment receives their fair share of the returns - including general partners - are particularly complex but highly financially beneficial. However, not only are they difficult to summarise in a partnership agreement but they complicate the process of accounting for a private equity firm and require an experienced eye for detail.
  • Private equity funds, while they may begin as relatively simple limited partnerships, can quickly become complex operations with many interlinking branches. Ensuring that allocations and fees are calculated correctly means highly complex spreadsheets and records need to be kept to meet regulations on reporting.
  • The speed of accounting increases as a private equity firm becomes bigger. Large investors may demand detailed quarterly reports with lengthy statements to be delivered mere days after the end of a quarter - making accounting a challenging and often stressful process.
  • The complexities of the accounting process demand ever-evolving technology. Traditional methods of accounting simply cannot handle the volume of work required within a modern private equity firm - so automation becomes necessary with accounting software that can streamline the most complex accounts and meet the unique needs of any firm involved in this type of large-scale investment.

What are the benefits of outsourcing private equity fund accounting?

Using third-party accounting software within a private equity firm can completely transform the way it is run day-to-day, delivering both the efficiency and the transparency it needs. The benefits of private equity accounting software include:

  • A more closely controlled and reliable place to input and output data, with less margin for error than a spreadsheet and much more robust security. Not only is a spreadsheet an increasingly archaic and less sophisticated method of accounting, but its capacity for complex calculations is more limited.
  • A platform that all stakeholders can access if they need to, including fund managers, general partners and limited partners. Anyone with secure credentials can see incoming and outgoing data and updated reporting in real time, without the need for constantly sending around updated copies of information.
  • There is no need for the costly investigations and maintenance that come with operating outdated methods of accounting. The increased accuracy of private equity accounting software reduces the time and money spent on rectifying errors and frees up an accounting team to focus on the firm’s overall aims.
  • Accounting software is designed to be scalable, so there is none of the disruption that comes with moving from one accounting system onto another as the firm grows in size and demands more capacity.

Find out more about venture capital and private equity accounting software

At AccountsIQ our private equity accounting software is leading the way in offering firms the flexible, secure and accurate platform that they need. All the benefits of accounting software outlined above are delivered in a secure, easily adopted package to simplify and transform the way accounting is run within your private equity firm. Get in touch today to find out how we can bring private equity into the digital accounting age.

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