If you are considering investing in venture capital or any private fund, you need to know the following five key terms: MOIC, TVPI, DPI, loss rate, and IRR. Without them, it’s like walking into a poker game without knowing the rules. In this game, bets and potential spending – huge.
I have been investing in venture capital since 2003, usually allocating about 10% of my investable capital to the space in search of multi-bag winners. Since I don’t have much advantage or time as an angel investor, I’d be happy to outsource my work to regular partners (GPS) Do Have an advantage, charge.
My hope is that I will choose the right GP who will spend their careers on my behalf and other limited partners in search of winners. If they succeed, everyone will win.
So far, I have achieved good results. Over the past 10 years, several funds returned more than 20% each year, while others generated only high unit returns. Thankfully, I haven’t invested in a fund that has lost my money. If I invest directly in personal transactions, I can’t say the same thing, so be careful.
Decide whether to invest in new venture capital retro
Currently, I’m debating whether to contribute $200,000 to a new closed venture capital fund focused on seed and Series A companies. I had promised its previous year $200,000 a few years ago, but so far the results are limited. In the first few years, there is almost always a loss until the potential profit arrives. This is called “J-Curve”.
At this early stage, investing is like betting on promising high school players who end up entering the NBA. About 80% of these companies go bankrupt. About 10% of people will become “zombie companies” or only have mild profits, such as players who end up playing overseas. This makes the last 10% pay out in a super big return (ideal 30 times) to bring vintage to 25% IRR in five years.
Let’s break down five key metrics using my assumption of $200,000 so you can see exactly how they work.
MOIC – How much investment capital
MOIC is simple: it’s everything that your investment is worth (the cash you’ve already received and the company you’re still holding) divided into your investment.
Example: I invested $200,000. Over time, I received $50,000 in cash distribution and the remaining shares were worth $250,000. This is $300,000 total investment = $300,000 for 1.5×MOIC. Not bad, but not life-changing money.
Mock says there is nothing How long does it take to achieve it. This is why LP also looks at IRR (internal rate of return). 3 times over 10 years is 11.6% IRR, but 3 times over 5 years is 25%. Huge difference.
IRR – Internal Rate of Return
IRR is the annual return you earn on your investment, taking into account the time and size of the cash flow. Not just about How many You did it, but when You did it.
- A 2×MOIC achieved in three years could mean 26% IRR.
- In ten years, the same 2×MOIC was only 7% IRR.
For funding, IRR is usually the number they brag about because it captures the magnitude and speed of returns, but be careful. Even if the fund’s subsequent exports are mediocre, it can also obtain IRR as early as possible through fast partial returns.
TVPI – Total value of payment
For most purposes, this is basically Like Moic. This is just a more bizarre way to invest in venture capital. Formula: (surplus value + distribution) ÷ payment capital. Such the same math, the result is the same – 1.5 times in our example.
DPI – Assign to Payments
DPI is the “Cash Cash” number. How much do you cost Actually Back to the real, money-spending? In our case: $50,000÷$200,000 = 0.25×DPI. Paper earnings don’t pay bills, and DPI is your reality check.
Loss ratio
It’s a gut feeling: the percentage of your invested capital has reached zero. If $40,000 out of my $200,000 is in a failed startup 20% loss rate.
Summarize all the definitions of venture capital investments together
For seven years, our $200,000 might look like this:
- Release: $50,000
- Unrealized value: $250,000
- Loss: $40,000
- moic/tvpi = 1.5× ($300,000/$200,000)
- DPI = 0.25× ($50,000 / $200,000)
- Loss rate = 20% ($40,000 / $200,000)
Best Scene (5×MOIC)
Top venture capital firms return 5x MOIC in 10 years. Let’s take a look at the possible appearance.
- Distribution of $500,000 + $500,000 Unrealized Value, Total $1,000,000
- DPI = 2.5× ($500,000 / $200,000)
- Loss rate = 10% ($10,000 / $200,000)
- IRR = 26.23% in 10 years
The internal rate of return (IRR) of 26.23% (annual rate of investment growth over time) is staggering, about 16% higher than the average annual return of the S&P 500. Just as good as that, Venture Capital LP has invested in the entire decade, partly because they have to do so. With public stocks, it would be easier to sell early on by panic or lock in profits, which could derail long-term complexity.
Realistic Worst Case (0.7×MOIC)
The underlying venture capital firm returns 1x or less MOIC. This is what a 0.7x Moic looks like when invested $200,000.
- Distribution of $50,000 + Unrealized Value of $90,000 ($140,000 / $200,000)
- DPI = 0.25× ($50,000 / $200,000)
- Loss rate = 40% ($80,000 / $200,000)
- IRR = –4.24% in 10 years
Thus, even if the bad fund “only” loses about 30% of its value on paper, the time factor drags annual returns into negative territory. If the S&P 500 returns 10% per year over the same 10-year period, you’ll be priced at $519,000, just $140,000. This is a huge gap, which is why choosing the right venture capital fund is crucial.
Betting on a brand new VC is risky due to lack of track record. To offset this, the general partner needs to lower the fees and carry or sow with some early winners to reduce the loss period of J-Curve and increase the chance of achieving strong Moic and IRR.
Venture Capital is a Killer Business
The reality is that most investments fail, and there are several occasions where one or two home runs create this fund. The high Moore Mountains with a lower DPI means you are looking at the “paper rich”. The high loss rate tells you that the manager is swinging for the fence but is often missing. Make sure the ratio is consistent with the required ratio.
Before writing a check, always:
- Check trail records – More than just the last one in multiple funds and years (years).
- Ask for loss rate – You will quickly learn whether they are disciplined or gamblers.
- Find out the time for liquidity – Because the 5×MOIC in Grade 15 is much more exciting than it sounds.
- Be honest about your own risk tolerance – Can you see 90% of portfolio companies failing and losing sleep?
Understanding MOIC, TVPI, DPI, loss rate and IRR won’t magically make you choose the next Sequoia Capital. But this will stop you from investing blindly. In venture capital, it is important to avoid big mistakes. You don’t want to lock your capital in more than 10 years, but you can only perform well. Opportunity costs may be too high.
Alternative option: Open-end venture capital funds
Open venture capital worth mentioning if you want to get exposure to venture capital without painful shortcomings. Not only do these vehicles provide liquidity, they also allow you to view your portfolio before investing. It’s like sitting on a Texas table, already knowing your opponent’s card and seeing failure before it is revealed.
With this visibility, you can decide whether these companies are thriving or struggling and betting on a real advantage. Of course, turn and rivers still bring surprises, but at least investment is not a complete leap of faith like traditional closed-end funds. Over time, knowledge advantages may add up.
Your age is important when investing and taking risks
The older I am, there is the risk of locking in funds for ten years, with less visibility and liquidity. With closed venture capital, you usually don’t know what it is to the first to third grade.
10 years are a long time to wait for returns and capital return. At 48, I can’t guarantee that I’m even alive at 58 to enjoy the benefits. If an emergency occurs, I also want to choose some liquidity, which traditional funds simply do not allow. That’s why you should only invest money in them, and you can be 100% sure you don’t need it for ten years.
Then there is a 20%-35% carry fee. I get it. General partners earn their own salary by finding high-return companies. As an economist, if I’m still making money, I should accept payments. But if there is another way to invest in a private company No Coughing a lot of profits, why don’t I accept it? This is what the platform likes Fundraising Events shine.
Personally, I diversify in early, mid and late venture capital, but my best positions are in the A, B and C series. These companies often have real appeal, recurring revenue and product market fit. Instead of praying for a 100x moonball from the seed stage gambling, I’m happy to win the “unity” with a 10-20x championship. At this stage in my life, probability and visibility are much more than chasing lottery.
Flexibility and visibility are attractive attributes of investment
Open venture capital offers you something rare in private investment: Flexibility and clarity. They reduce lockdown risks, eliminate a lot of carrying fees in some cases, and give you an idea of what you actually buy. you can Skip J-Curve by open-end venture capital funds.
Traditional closed funds make more sense for young investors who have been waiting for decades. Capital calls over three to five years are very useful for consistent investments. But for those or above and value option sex, open-ended funds feel like a more pragmatic option.
So you have. Now you know the main venture capital terms and options that can help you allocate your capital better. Remember to maintain discipline when building more wealth for financial freedom.
Reader, are you a venture investor? If so, what percentage of investable capital you allocate to the asset class? As the growth company becomes more private, why not more investors invest more capital in the private market to occupy this upside?
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