There are four key metrics commonly used to calculate returns within a venture capital fund context.
These are TVPI, which stands for total value to paid in capital, MOIC standing for multiple on invested capital. DPI, which is distributions to paid in capital and the IRR or internal rate of return.
The first three are multiple metrics that measure the total value of a portfolio, but do not consider timing.
The last metric is the IRR calculation, which does consider when the VC fund will get a return on their investment.
In addition to how much money the VC fund will make, although the IRR calculations provide a clear picture of the VC fund's projected or actual performance, it is useful to consider the multiples metrics to get a full picture of the VC fund's overall performance and returns at a given point in time, irrespective of the amount of time that it has taken to generate those returns.
The application of these four metrics varies in relevance, depending on a variety of factors such as what stage or year the VC fund is at.
If VC fund fees and carry are allocated to each investment and how much capital has been allocated to a portfolio company.
If a VC fund is fully invested and all proceeds have been returned to the LPs, then the metrics are straightforward and the results based on actual performance.
In this scenario, the overall multiple on invested capital, MOIC and IRR would be most applicable and are based on the actual cash flows achieved by the fund and will be calculated on a realized basis and benchmarked against other VC funds over a similar time period.
However, it can take a VC fund many years, sometimes up to 10 years to determine their full performance.
For example, if the VC fund has any uncalled capital available for following offerings, or if the capital invested in a portfolio company has not yet reached an exit or liquidity event, in this case, any measure of the VC fund performance would have to include an unrealized element as well.
This is where the returns are calculated on a theoretical exit value based on the current valuations of each investment in a VC fund as if they had been sold.
This introduces an element of uncertainty into the return calculation.
Some additional considerations when looking at returns achieved, are the fees that the investor has to pay gross returns refer to the return made on the investment itself before any fees are deducted.
While net returns refer to the returns earned by the investor calculated after adjusting for fees paid to managers and other transaction costs.
The typical fee structure of VC funds is known as the 2 and 20 with a 2% referring to the management fee and the 20% referring to carried interest, which is charged against the profits generated from the investment portfolio companies.
Sometimes for the most successful VC funds with a stellar track record, the fund structure increases to 2.5 and 30.
