Private Equity Disputes Which Can Be Resolved by Experts
Private equity represents significant wealth creation opportunities and the asset class involved in nurturing technologies. However, the diverse funding needs, company structures, and investment styles give rise to complex relationships in private equity. A high level of delicacy and professionalism is required to navigate such relationships. This is where expert insights into private equity disputes become crucial.
This article will explore three disputes arising in private equity and how experts can help resolve them. Read on to know more!
Disputes over valuation
The overall trend suggests that as the private equity market grows, so too will the frequency and complexity of associated disputes. In private equity, company valuations tend to need to be corrected. Some situations wherein valuation-related disputes are likely to occur are as follows:
Funding rounds and company sales
Before a deal is closed, the existing shareholders and investors seldom agree upon the valuation. While founders may agree upon a discounted valuation to secure funding, the same cannot be decided by investors. Since the buyers are encouraged to secure discounts and sellers are motivated to ensure a premium, such situations are highly likely to become impasses.
Equity compensation
A company may share earnings projections to communicate the benefits of equity compensation. If the buyback share price does not match the original earnings projections, the employees may feel hard done by and demand the company to conduct another valuation.
Also, companies must get a valuation compliant with Section 409A of the IRC if they want to issue equity compensation. If the Internal Revenue Service (IRS) proves that the company valuation was unreasonable, the employees will face grave tax consequences.
Estate distributions
When the decedent’s will does not specify how each asset must be distributed, disputes can arise, especially if the estate includes private equity and art collections. In the worst-case scenario, even if every beneficiary is interested in different assets, they will point to the undervaluation of assets distributed and the overvaluation of the assets they received.
When inheritance leads to expensive tax liabilities, beneficiaries may go as far as disputing the IRS’ valuation of the estate.
Disputes between partners
A private equity fund is made up of limited partners (LPs) and general partners (GPs). The GPs make investment decisions and can participate in the management of portfolio companies. GPs must provide transparent and regular reports to LPs and look after their interests. For taking on the additional responsibilities, GPs receive a management fee and carried interest, a fixed percentage of the fund’s profits.
Some of the disputes that can arise between partners are of the following types:
Disputes over GP compensation
Since private equity investments require extensive research and extremely sharp financial acumen, management fees tend to be high. Limited partners may tolerate this when the private equity fund performs well. However, if the private equity fund’s performance falls below its standards, the LP may move to reduce the management fees.
Even when the fund is performing well, disputes may arise over the carried interest paid to general partners.
Breach of fiduciary duties
Limited partners may feel that the general partners have breached their fiduciary duties if they suspect conflicts of interest in reports. This may arise if general partners abuse their position to secure exits wholly or partially. If the general partners fail to steer a portfolio company away from an avoidable crisis, limited partners may accuse general partners. Finally, misrepresenting information in reports is a serious offence and often points to financial fraud.
How can experts resolve disputes between partners?
When a dispute over GP compensation arises, both parties can bring in financial experts to mediate. The experts have experience and knowledge of private equity market conditions that align with industry standards.
Investigation of breach of fiduciary duties may require investigations by experts like valuation analysts. Ideally, an arbitration panel led by an independent party and composed of such experts should handle the dispute resolution process.
Shareholder disputes
In large private concerns, hundreds of shareholders may have different expectations and be unable to take an active part in management. Hence, they elect representatives in the form of directors. Shareholder disputes are likely to arise because of differences in opinions and influence by one’s own voting power.
Some of the common sources for shareholder disputes are:
Lack of consensus on company direction
Due to differences in financial needs, management philosophies, and risk appetites, shareholders may lack consensus over the company’s direction. Investors seeking exits may prioritize different metrics than investors who plan to stay invested in the long term.
Some investors may have an ideological stake in the company’s mission, while others would prefer profit prioritization. Even if all shareholders had the same objectives, if their management styles clash, it would cause indecision at the board level.
Suspicions of mismanagement, fraud, or negligence
When a company suffers from an avoidable crisis, or directors neglect the shareholders, they may suspect foul play. If shareholders consider the company’s financial reports questionable, they may suspect fraud.In such cases, shareholders may file lawsuits against their directors that can impact a company’s credibility.
Oppression of minority shareholders
Majority shareholders may abuse their position to push agendas not in the interest of minority shareholders. A lack of transparency in company operations can lead minority shareholders to suspect that essential information is being concealed. In extreme cases, majority shareholders may go as far as disregarding the votes of minority shareholders.
How can experts help resolve shareholder disputes?
Mediation and arbitration experts can go a long way in finding consensus among shareholders, thereby improving the company’s decisiveness. If shareholders suspect fraud or negligence, investigations by lawyers, forensic accountants, and valuation professionals can help clear the air. If minority shareholders are being oppressed, lawyers can help them seek remedies.
Eqvista- Detailed Valuation Reports for Speedy Dispute Resolution!
In private equity, disputes frequently arise over company valuations during sales and funding rounds, estate distributions, and when equity compensation is issued in a non-compliant tax manner. Because of the high-stakes nature of private equity funds, there is a high chance of relationships between general partners (GPs) and limited partners (LPs). Valuation experts can catalyze the dispute resolution process in private equity disputes.
As a reputed valuation expert trusted by over 15,000 companies, Eqvista has the expertise and experience needed to handle disputes in private equity through our detailed valuation reports and dedicated litigation support teams. Contact us to know more!
