Fall 2008 issue of Horizons

INDUSTRY ◆

NOT-FOR-PROFIT

Alternative Investments

Financial Reporting Consequences of Alternative Investments Most not-for-profit organizations are required by generally accepted accounting principles to report investments at fair value within the financial statements. For traditional marketable securities, the fair value can be derived by simply obtaining the closing price for the security on a national exchange as of the financial statement date. Similar market data is not available for alternative investments, and thus other sources of fair value information must be identified. This assessment usually involves the following complications: • For many alternative investment funds, fair value information comes directly from the fund itself, making it difficult to perform an independent verification of this information. • Many alternative investment funds consider their investment holdings and strategies to be proprietary information. Thus, they are often reluctant to share information that would be helpful in calculating a fair value for the fund (such as a listing of investments held by the fund). • Financial information (such as monthly investment statements or audited annual financial statements) is usually received in a much less timely fashion from alternative investment funds than from traditional investment funds, especially if thealternative investment fund itself invests in other alternative investments. This lag has the potential to delay a not-for-profit’s financial reporting process significantly.

By Ted Williamson, CPA

Alternative investments are investments for which a readily determinable fair value does not exist. Unlike traditional investments such as common stocks or government and corporate bonds, quoted market prices for alternative investments are not available on national exchanges or within financial publications. Examples of alternative investments include hedge funds, private equity funds, real estate funds, venture capital funds, commodity funds, offshore fund vehicles and funds of funds. Over the past decade, not-for-profit organizations throughout the United States have devoted progressively larger shares of their investment portfolios to alternative investments, often at the behest of their investment advisors. With the stock market producing less favorable returns than in the late 1990s, alternative investments have been viewed by many not-for-profits as a way to guarantee perennial double-digit returns on their endowments. However, in their zeal to achieve improved investment performance, many not-for-profits have failed to consider the financial reporting complications arising from alternative investments.

39 ◆ fall 2008 issue