How to Assess Investment Performance?

Beginning investors and portfolio managers often ask how big investment funds assess project viability and what indicators they use. Funds distinguish between gross and net indicators. Gross indicators are net of the management company’s expenses, while net indicators factor them in. The difference is actually not great: it is usual practice for a management company to charge about 2% of the funds raised as its fee in the initial phase of the project. A few years later, after the investment has been put to work, this share decreases.

Internal Rate of Return

Internal rate of return (IRR) is the discount rate when the net present value of the project is equal to zero. It factors in the time value of money, enabling a comparison with the rate of return for indices, bank deposits, and other types of investment.

Distributions to Paid-in Capital

Distributions to Paid-in Capital (DPI) reflects the size of investments in the fund and proceeds in the form of dividends and sale of companies. DPI disregards the time value of money, so it is hard to compare it to the other indicators without a time horizon. But DPI includes the total of all historical distributions and investments, enabling the investor to answer the question: “How much will I gain per unit of investments?” DPI is a part of Total Value to Paid-in Capital (TVPI).

Residual Value to Paid-in Capital

Residual Value to Paid-in Capital (RVPI) is the ratio of net asset value to investments that have been made. Methods used to estimate RVPI may vary, as funds invest in both public and private companies. In essence, this indicator answers the question: “What is the current value of assets per unit of investments?”

Total Value to Paid-in Capital

Total Value to Paid-in Capital (TVPI) reflects total distributions of dividends, sale of companies, and residual value. The indicator is sometimes referred to as MOIC (Multiples on Invested Capital). TVPI (MOIC) reflects the ratio of the total value of investors’ funds to paid-in capital.

Normally, funds expect TVPI = 2. In simple terms: the investor will earn two dollars per one paid-in dollar. However, this indicator should be taken into account in combination with IRR, as the investor may secure TVPI = 2 in five or only in ten years, which implies different annual rates of return.

All of the indicators described here are used in GIPS (Global Investment Performance Standards). Used in combination, they can give the most objective assessment of a fund’s investment appeal.