HgCAPITAL TRUST plc ( the Company ) AUDIT AND VALUATION COMMITTEE Terms of Reference (Approved by the Board on 27 February 2001, revised 20 April 2004, 5 September 2006, 25 July 2007, 10 September 2007, 28 July 2008, 28 July 2009, 24 August 2010, 14 December 2010 and 4 October 2011) There shall be established a Committee of the Board, duly constituted in accordance with Article 95 of the Company s Articles of Association, to be known as the Audit and Valuation Committee. 1. Objective 1.1 The Audit and Valuation Committee ( the Committee ) will support the Board in fulfilling its oversight responsibilities. The Committee will review the financial reporting process, the system of internal control and management of risk, the audit process and the Company s process for monitoring compliance with laws and regulations and its own code of business conduct. 1.2 The Committee will receive valuations from the Manager in respect of all investments held by the Company, having regard to, inter alia, the appropriateness of methodology and calculation. Following review the Committee will recommend the valuations for adoption by the Board. 1.3 In performing its duties, the Committee will maintain effective working relationships with the Board of Directors, HgCapital ( the Manager ), the Manager s compliance, company secretary ( Secretary ), custody and administrative service providers and the Company s external auditors. 1.4 To perform his or her role effectively, each Committee member will obtain an understanding of the detailed responsibilities of Committee membership as well as the Company s business, operations and risks, and will seek to maintain the knowledge and skills necessary to fulfil their responsibilities. 2. Membership 2.1 Unless otherwise determined by the Board, the members of the Committee shall be all such persons who, for the time being, are appointed as a Director of the Company and are independent of the Manager. It shall be the responsibility of the Board to ensure that, at any given time, at least one Director (and thereby at least one member of the Committee) has recent and relevant financial experience. 2.2 No meeting of the Committee shall be quorate for the purpose of exercising any of its powers, authorities or discretions unless two Directors are present. 2.3 The Chairman of the Committee shall be elected by the Board and should attend the annual general meeting of the Company to answer shareholder questions on the Committee s activities. 2.4 In the absence of the Committee Chairman the remaining members present shall elect one of themselves to chair the meeting. 2.5 The Chairman of the Company shall not be eligible to be appointed as Chairman of the Committee. 2.6 The Secretary shall act as Secretary to the Committee.
2.7 So long as all members are considered independent, the Audit Committee shall not have a policy of tenure. 2.8 Representatives of the external auditor and the Manager shall be invited to attend meetings as appropriate. Any member of the Board who is not a member of the Committee shall have the right of attendance, subject to the approval of the Chairman of the Committee. 3. Authority 3.1 The Committee is authorised to seek any information it requires from any Director or employee of the Manager, Secretary or any other supplier of services to the Company, and all such Directors and employees are directed to co-operate with any request made by the Committee. 3.2 The Committee is authorised by the Board to obtain professional advice and to secure the attendance of outsiders with relevant experience and expertise if it considers this necessary. 4. Frequency and Notice of Meetings 4.1 The Committee shall meet not less than four times a year. The external auditors or the Investment Manager may request a meeting if they consider it necessary. 4.2 The Chairman of the Committee may, and the Secretary on the requisition of any member of the Committee shall, convene a meeting of the Committee at any time. 4.3 The Secretary shall ensure that adequate notice of meetings is given to all those entitled to attend. 5. Reporting and Administration 5.1 The Secretary will: 5.1.1 minute the proceedings and resolutions of all Committee meetings; 5.1.2 send draft minutes of Committee meetings to the Chairman of the Committee within five working days of the meeting for his approval; and 5.1.3 circulate minutes of Committee meetings to all Directors following approval of the Chairman of the Committee, for consideration at the next meeting of the Committee, or if earlier, the next meeting of the Board. 5.2 The Committee will: 5.2.1 make reports or recommendations to the Board as appropriate; 5.2.2 receive instructions from the Board relating to the investigation of any matters of interest or concern; and 5.2.3 circulate to members of the Board the minutes of all Committee meetings. 5.3 The Chairman of the Committee will report briefly on the findings and recommendations of the Committee at meetings of the Board.
6. Duties The Committee shall carry out the duties set out below: 6.1 Internal Controls and Risk Management The Committee shall: 6.1.1 reasonably satisfy itself as to the adequacy of the accounting and internal control systems of the Company, the Manager, Custodian and other service providers; evaluate whether the Manager is setting the appropriate control culture by communicating the importance of internal control and risk management and is ensuring that all relevant HgCapital employees have an understanding of their roles and responsibilities 6.1.2 reasonably satisfy itself that the systems put in place by HgCapital in respect of the Company (specifically accounting and internal control systems) meet relevant legal and regulatory requirements and initiate further investigations as it sees fit as to the effectiveness of the systems of control; 6.1.3 review all relevant reports (or call for such reports to be provided) on the Company relating to the operation of the internal controls in the Company, the Manager or at third party service providers; 6.1.4 reasonably satisfy itself that matters of compliance are under proper review. The Committee shall have direct access to the respective Compliance Officers of HgCapital, and shall receive a report from the Compliance Officers of HgCapital on a bi-annual basis confirming that the Company s affairs have been conducted in compliance with the regulations applying to it. 6.2 Financial Statements, Reporting and Announcements 6.2.1 The committee shall monitor the integrity of the financial statements of the company, including its annual and half-yearly reports, interim management statements, and any other formal announcement relating to its financial performance, reviewing significant financial reporting issues and judgements which they contain. 6.2.2 In particular, the committee shall review and challenge where necessary: 6.3 External Audit a) the consistency of, and any changes to, accounting policies b) the methods used to account for significant or unusual transactions where different approaches are possible c) whether the company has followed appropriate accounting standards and made appropriate estimates and judgements, taking into account the views of the external auditor d) the clarity of disclosure in the company s financial reports and the context in which statements are made; and e) all material information presented with the financial statements, such as the business review/operating and financial review and the corporate governance statement (insofar as it relates to the audit and risk management). The Committee shall: 6.3.1 consider and make recommendations to the board, to be put to shareholders for approval at the AGM, in relation to the appointment, re-appointment and removal of the company s external auditor. The committee shall oversee the selection process for a new
auditor and if an auditor resigns the committee shall investigate the issues leading to this and decide whether any action is required; 6.3.2 oversee the relationship with the external auditor including (but not limited to): a) recommendations on their remuneration, whether fees for audit or non-audit services and that the level of fees is appropriate to enable an adequate audit to be conducted b) approval of their terms of engagement, including any engagement letter issued at the start of each audit and the scope of the audit c) assessing annually their independence and objectivity taking into account relevant UK professional and regulatory requirements and the relationship with the auditor as a whole, including the provision of any non-audit services d) satisfying itself that there are no relationships (such as family, employment, investment, financial or business) between the auditor and the company (other than in the ordinary course of business) e) assessing annually the qualifications, expertise and resources of the auditor and the effectiveness of the audit process 6.3.3 review the findings of the audit with the external auditor. This shall include but not be limited to, the following a) a discussion of any major issues which arose during the audit b) any accounting and audit judgements c) levels of errors identified during the audit d) the effectiveness of the audit 6.4 Investment Trust Status, Fraud, Bribery and Other The Committee shall: 6.4.1 review the Company s investments with particular reference to maintenance of the Company s investment trust status under S1158/9 of the Corporation Taxes Act 2010; 6.4.2 give due consideration to laws and regulations, the provisions of the UK Corporate Governance Code, The AIC Code of Corporate Governance and the requirements of the UK Listing Authority s Listing Rules as appropriate; 6.4.3 at least once a year, review its own performance, constitution and terms of reference to ensure it is operating at maximum effectiveness and recommend any changes it considers necessary to the Board for approval; 6.4.4 be provided with appropriate and timely training, both in the form of an induction programme for new members and on an ongoing basis for all members; 6.4.5 review the Manager s systems and controls for the prevention of bribery and receive reports on non-compliance; 6.4.6 review the Manager s procedures for detecting fraud; and 6.4.7 review the adequacy and security of the Manager s arrangements for its employees and contractors to raise concerns, in confidence, about possible wrongdoing in financial reporting or other matters. 6.5 Valuation The Committee should reasonably satisfy itself as to the valuation of the Company s investments individually and as a whole, having due regard to: - the general principle that investments should be reported at fair value ; - the International Private Equity and Venture Capital Valuation Guidelines (September 2009 Edition); and
- the requirements set out under the United Kingdom Generally Accepted Accounting Practices (UK GAAP). 6.5.1 Listed Investments The Guidelines determine that investments listed (or traded) on recognised stock exchanges are valued at closing bid market price. Discounts should not be applied to prices quoted on an active market, unless there is some contractual legally enforceable restriction that would impact the value realised at the reporting date. However, where the Guidelines differ from the prevailing accounting standards, the latter will apply. Currently under UK GAAP and IFRS, quoted shares have to be valued at the bid market price with no discount being applied for liquidity even when a formal lock-in provision exists. 6.5.2 Unquoted Investments Draft valuations of unquoted investments are prepared by HgCapital and reviewed by the Committee. The Committee considers the valuation methodology, comparators and proposed valuations and has the opportunity to suggest that revisions are made to the valuations if deemed necessary, following which recommendations to adopt the valuations are made to the Board. Unquoted investments are valued using the following criteria: a) Unquoted assets are held at Fair Value. Initially, fair value is likely to equate to the cost of the investment unless poor performance has led to impairment in value which requires a write down (see point d), or market conditions have moved down significantly to make the original cost an inappropriate measure of Fair Value at the balance sheet date. The appropriateness of a cost based valuation (price of recent transaction) should be considered at each reporting period within the first year (i.e. before an earnings basis is adopted) in light of prevailing market conditions and the trading results of the entity. In stable market conditions with little change in the entity or the external environment, the length of period for which this methodology is likely to be appropriate will be longer than during a period of a rapidly changing environment. b) After the receipt of the first audited financial statements following initial investment, companies are valued based on the level of maintainable earnings and an appropriate earnings multiple; a multiple should be derived by reference to current market-based multiples. The aim is identify companies that are similar, in terms of risk attributes and growth prospects, to the company being valued. This is more likely to be the case where the companies are similar in terms of business activities, markets served and geography. Adjustments should be made to market multiples to pick up points of difference between the comparator and the company being valued. These points of difference should be considered and assessed by reference to the two key variables, risk and earnings growth, which underpin the earnings multiple. When considering adjustments to reported multiples, consideration should be given to the differences between liquidity of the share being valued and those on a quoted exchange. To put a framework around this process, HgCapital determine the relevant basket of comparable companies and then on a case by case basis determine the degree of relevance on a scale of 0-100% in 25% tranches. For example, a company may be directly comparable but have company specific issues that make the multiple inappropriate as it is a significant outlier to the basket. In this instance, the company would be excluded from the basket. The level of adjustment made to each comparator is subjective and requires judgement as to the appropriateness of the company having
considered all the factors mentioned above. A detailed ratings sheet will be provided to support each multiple used in the valuation exercise. In applying a multiple to maintainable earnings, it is important to ensure that the earnings figure can be relied upon. HgCapital would usually look to historical audited accounts for this purpose unless: (i) earnings are declining, then forecasts would be used; or (ii) using historicals would materially distort the fair value, in which case current year management accounts are used. These numbers should be adjusted for exceptionals, acquisitions and discontinued activities. c) Funds are valued on a net assets basis subject to checking that the fund manager is applying the fair value principles to their valuation process. Adjustments to the Manager s reported NAV should only be considered where there is a significant time elapsed between the reporting date of the Trust and the Fund that may give rise to the reported NAV being inappropriate due to changing market or economic conditions d) Where there is believed to be an impairment in the value of an investment, the book value of the investment should be written down to an appropriate level. This may be determined by reference to an earnings based cross check, or a Sales to EV comparison with similar businesses. HgCapital have a framework for writing down investments which applies provisions per stock line in 25% tranches to a maximum of 100%. i.e. equity first and then loan stock (including accrued income which ranks pari passu). The level of the write down needs to correlate with the resultant value from an earnings-based cross check valuation. e) Third party transaction prices may be used to value investments but consideration needs to be given to whether the price paid by a third party is wholly representative of Fair Value. Factors to consider include size of investment (i.e. is it material), whether a strategic premium was paid, whether the transaction was a forced / rescue sale and whether different rights exist to the investment. Both realised and unrealised gains and losses arising on investments are taken to capital account.