Unit-based accounting has been espoused by NAIC for years, and is probably an outgrowth of the influence of mutual funds. Let's take a simple example. Assume that two people want to start a club. Partner A, a big hitter, wants to start out with an investment of $4,000. Partner B, much more timid, opts for a beginning contribution of $1,000.

 

So, after the initial investments, Partner A owns 80% of the club (4,000/5000) and Partner B owns 20% (1,000/5000). In theory, you would not have to issue units, but it is much simpler to keep track of the various ownership percentages if you do. Suppose that the club wants to start with a unit value of $10. (The club can pick any number for its beginning unit value, since it will soon change.) After the first contributions, the club would have 500 units outstanding ($5,000 divided by $10). Of these Partner A would own 400 and partner B would own 100.

 

Now, assume that the club buys 100 shares of Stock A, at $40 a share. The club now has $4,000 worth of stock and $1,000 in cash. That's still $5,000 in total assets and 500 units outstanding at $10 per unit.

 

At the end of the month, the members are overjoyed to find that Stock A has experienced a 10% increase and is now worth $4,400. Now the total value of the club is $5,400 ($4,400 in stock and $1,000 in cash). With 500 units outstanding, each unit is now worth $10.80.

 

At the next meeting each member contributes $100. Each will get 9.25925 units for the $100. and units will still be worth $10.80. Total assets are now $5,600 ($1,200 in cash and $4,400 in stock). The unit value is still $10.80 [$5,600 divided by (500+9.25925+9.25925)].

 

Now do you understand why members' eyes start to glaze over when the treasurer talks about unit values?<g>  The important thing to remember is that increases/decreases in assets such as stock appreciation, dividends, expenses, etc. cause the unit value to change. Additional contributions or withdrawals do not.

 

 

 

Rip West
Saint Paul, MN
trez_talk@bivio.com