12.1 Key performance indicators for VC and PE investments

Key performance indicators are crucial for evaluating VC and PE investments. Cash-based metrics like DPI and TVPI measure returns relative to invested capital, while gross and net returns show performance before and after fees. These metrics help investors gauge investment success.

The J-Curve illustrates the typical return pattern over time, with initial losses followed by gains. Vintage year analysis compares funds started in the same year, accounting for economic conditions. These tools provide insights into fund performance and guide investment decisions.

Return Metrics

Cash-Based Return Measures

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• Cash-on-Cash Return measures profitability of an investment relative to the amount of cash invested
• Distributions to Paid-In Capital (DPI) calculates the ratio of cumulative distributions to total capital invested
  • Indicates how much capital has been returned to investors relative to their initial investment
  • DPI greater than 1.0 signifies investors have received more cash than they invested
• Total Value to Paid-In Capital (TVPI) combines the value of distributed capital and remaining investments relative to paid-in capital
  • Provides a comprehensive view of investment performance, including both realized and unrealized returns
  • TVPI of 2.0 means the total value is twice the amount of capital invested
• Residual Value to Paid-In Capital (RVPI) measures the ratio of remaining investment value to total capital invested
  • Helps assess the potential for future returns from unrealized investments
  • RVPI of 0.5 indicates half of the invested capital remains in unrealized investments

Gross vs. Net Returns

• Gross returns represent the total return on investments before deducting fees and expenses
  • Reflect the underlying performance of portfolio companies
• Net returns account for all fees, carried interest, and expenses
  • Provide a more accurate representation of actual investor returns
• Difference between gross and net returns can be significant (500-1000 basis points)
  • Management fees typically range from 1.5% to 2.5% of committed capital
  • Carried interest usually amounts to 20% of profits above a specified hurdle rate
• Comparing gross and net returns helps assess the impact of fees on overall performance

Performance Analysis

J-Curve Analysis

• J-Curve illustrates the typical pattern of returns in private equity and venture capital investments over time
• Initial period characterized by negative returns due to:
  • Management fees and setup costs
  • Investments in early-stage companies that have not yet generated returns
• Middle period shows gradual improvement as portfolio companies mature and start generating value
• Later stages exhibit steeper positive returns as successful investments are realized
  • Exit events (IPOs, acquisitions) contribute to significant value creation
• Understanding the J-Curve helps investors set realistic expectations for fund performance
  • Early-stage funds typically have a more pronounced J-Curve compared to buyout funds

Vintage Year Performance Analysis

• Vintage year refers to the year a fund begins making investments
• Analyzing performance by vintage year allows for meaningful comparisons between funds
  • Accounts for different economic conditions and market cycles
• Factors affecting vintage year performance:
  • Macroeconomic conditions at the time of investment
  • Availability of attractive investment opportunities
  • Competition for deals within the same vintage
• Vintage year analysis helps identify:
  • Trends in fund performance over time
  • Optimal timing for new fund commitments
  • Relative performance of different investment strategies within the same vintage
• Investors use vintage year data to:
  • Diversify their private equity portfolio across multiple vintages
  • Assess fund manager performance relative to peers in the same vintage
  • Make informed decisions about future fund commitments