Catalysts of Clarity: Deciphering TVPI, RVPI, DPI, and IRR for the Discerning Investor

Private markets, cloaked in complexity, harbour a myriad of enigmatic acronyms—TVPI, RVPI, DPI, and IRR. These seemingly enigmatic codes hold the key to understanding investment performance in Private Markets. But deciphering them is only the beginning; discerning investors must wield this knowledge with precision.

Let us lay the groundwork:

• TVPI: Total Value to Paid in Capital – This is the fund’s cumulative distribution to investors to date plus the value of the remaining unsold portfolio, divided by the capital investors have paid into the fund to date.
• RVPI: Residual Value to Paid in Capital – This is the current value of the unsold portfolio divided by the capital paid into the fund to date.
• DPI: Distributed to Paid in Capital – This is the cumulative distribution to investors to date, divided by the capital paid into the fund to date.
• IRR: Internal Rate of Return – This can be thought of as similar to the compound annual growth rate achieved by the capital invested into the fund to date. Technically it is the discount rate that makes the net present value (NPV) of the cash paid into the fund by investors, the distributions received from the fund by investors and the current value of the unsold portfolio, equal to zero.

While the ostensible objective of a General Partner (GP) is to optimize returns for investors, this endeavour is fraught with complexity and nuance. One might be tempted to fixate on maximizing TVPI, yet this approach overlooks the tangible value of immediate cash returns (DPI) vis-à-vis the speculative worth of the unsold portfolio (RVPI). Furthermore, it disregards the temporal dimension; a rupee today holds greater value than a rupee promised tomorrow.

Alternatively, prioritizing short-term DPI gains through rapid asset liquidation fails to acknowledge the potential for value creation through sustained revenue growth and margin enhancements. Premature exits risk undermining existing investors and offering undue advantage to buyers.

Then there’s the allure of maximizing IRR through swift exits. Yet, investors must weigh immediate high returns against the allure of long-term compounding, potentially yielding superior TVPI and DPI albeit at the expense of a lower IRR due to extended holding periods.

You can see that the GPs job is not to simply ‘maximize returns’ but to balance out the attraction (and the risk) of longer term compounding with the comfort of getting cash back sooner rather than later.

So, how do GPs navigate this intricate terrain?

Many adopt a three-pronged strategy:

• They seek to give investors their original capital back by achieving a DPI of 1x sooner rather than later. Strategies to do this include exiting weaker investments early to recover capital, and being sensitive to pricing trends and selling companies whose valuations have run ahead of their growth prospects.
• They back their most promising companies for a longer time so that the compounding growth of these companies enables the GP to achieve its target fund-level TVPI multiple. Holding longer means taking risk for longer, so the GP is continually assessing potential future gains from holding versus risks, especially as the target portfolio TVPI comes into sight.
• Given the trade-off between achieving a higher ultimate DPI by holding longer versus achieving a higher IRR by selling earlier, many GPs will put greater weight on the DPI as long as the portfolio IRR remains attractive. GPs know that because of the difficulty of finding strong long term investments, many institutional investors have a preference for riding good investments for longer as long as the risks are acceptable.

In this nuanced ballet of risk and reward, GPs proceed with caution, mindful of investors’ quest for stable growth.

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