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FASB: What's This Stuff Really Worth?


Assuming all transactions in an illiquid market are distressed unless proven otherwise makes no sense.

Back when I had a real job (thank God those days are over), a couple of guys from accounting would come downstairs at the end of a quarter with a list of investments, corner my boss and myself, and ask, "What's this stuff worth?"

"That's a really good question," we'd respond.

I worked for a big insurance company in their private-placement group - which meant we only did investments in non-registered, non-public deals. I had all sorts of investments I was responsible for: a number of energy plays, and a bunch of venture-capital investments in small medical and technology companies. There wasn't a single market price to mark in my entire portfolio. This was almost 20 years ago -- way before CDS, CDO, and all that other derivative crap was invented -- but the issue was the same: What's this stuff worth?

If we absolutely, positively had to sell the entire private-placement portfolio by the end of the week (thereby getting market prices), we'd have gotten hosed and sent the company into Chapter 11. It's the same thing as anyone having to sell their house by the end of this week. I bet you wouldn't be happy with the price you got.

So to value this stuff, we used a number of conventions by asset class across the entire portfolio. If the private place was a loan, the interest and principal payments were current, and there was no covenant default, the loan was carried at cost. All of these loans were expected to be held to maturity, so interest-rate fluctuations were viewed as irrelevant.

If interest or principal weren't current, a permanent impairment would be taken. A covenant default might or might not require a permanent impairment. It was all a judgment call. Private equity was carried at cost until 1 of 2 things occurred: Either a new price was set by a new outside investor to create a new mark -- either higher or lower -- or, it looked like the investment was going toes up, and the entire thing might be written off.

I think the change by the FASB is logical. Removing the presumption that all transactions in an illiquid market are distressed unless proven otherwise makes sense. I'll grant you that the loans I had to mark were much easier to value than a lot of the syndicated junk that banks like Wells Fargo (WFC) or Bank of America (BAC) hold today - but a 20-bid 80-ask isn't a market.

And it all comes back to that same question: What's this stuff worth? Only time will tell.
No positions in stocks mentioned.

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