Public companies curious about the next frontier in valuation scrutiny can study how the Securities and Exchange Commission has challenged valuations in the investment advisory area, according to a valuation firm monitoring enforcement activity. 

The methods the SEC is using to challenge and enforce valuations among investment advisers “have direct applicability for public companies,” warns NERA Economic Consulting in a recent alert to clients. “Reporting entities are well advised to make full disclosures of and be prepared to defend unorthodox treatments.”

In NERA’s view, a recent enforcement action against Miller Energy Resources, its former CFO and current chief operating officer suggests the SEC is renewing its interest in pursuing valuation-related accounting issues. The SEC brought an administrative proceeding alleging the company inflated the values of oil and gas properties held by the company by some $400 million, boosting net income and total assets in a way that helped the penny-stock reach $9 a share on the New York Stock Exchange.

If the SEC’s approach in the fund advisor arena is any indicator -- and NERA thinks it is -- the SEC’s focus with respect to valuation issues focuses on two foibles. The first is any indication that valuation practice has strayed from stated valuation policies, says the firm. “The SEC will review the adequacy and accuracy of the methods utilized and the consistency of such application with the descriptions included in any filings,” NERA says. “Any inconsistencies will be a red flag and should be avoided.”

The second is any valuation that fails to adequately adjust to changes in market conditions, says NERA.” Such valuations may reflect the use of stale market data, abuse of discretion in making valuation judgment calls, or an absence of procedures for correcting or adjusting values,” the alert says.

Given the SEC’s employment of advanced technology to identify outliers in public company financial statement data -- such as with the Accounting Quality Model, or “robocop” -- such anomalies may not be  difficult to spot, says NERA. “Public companies can best avoid the valuation problems faced by many in the investment adviser space by employing best practices in accounting and valuation,” NERA wrote.

The SEC has called on the valuation profession to improve its own practices and standards.

Topics