TVPI is a common metric in performance reporting for private equity, venture capital, real estate, and other private investments. It is a valuable tool, but it is insufficient in and of itself. It is important to understand how the TVPI figure is generated as well as look at other return metrics such as IRR, CoC, MOIC, and so on.
TVPI stands for Total Value to Paid In. It expressed return as a multiple of “paid-in capital.” Paid-in capital is the money that an investor invests (regardless of how much is actually invested), so TVPI is often used to measure the performance of private equity fund investments. TVPI can be quoted on a gross or net of fees basis.
Let’s assume an investor buys into a private equity fund. The investor contributes $11 million. $1 million dollars goes towards fund expenses and fees. The investor receives $1.5 million of distributions and expects to receive a final distribution of $12.5 million at the end of the fund’s life (after all expenses and fees are paid). In this case, the TVPI is 1.27x.
In the above example, we get 1.27x by adding $1.5 million and $12.5 million and then dividing by $11 million.
Shortfalls of TVPI
TVPI is an immensely useful metric for evaluating private equity investments. However, TVPI does have some limitations as well.
TVPI Does Not Consider Time
The first major problem with TVPI is that it does not consider time. We do not know whether an investment with a 2x TVPI is good or bad. It the investment was 2 years ago, the 2x TVPI is great performance. If the investment was made 15 years ago, the 2x TVPI looks rather low.
TVPI Does Not Consider Time Value of Money
Even if two private equity funds are identical in terms of TVPI and time invested, there can be major differences in return. Consider two different five-year funds, Fund A and Fund B. Both funds have generated a 1.6x TVPI. Yet, this is insufficient to know which fund performed better.
Lets assume Fund A called 100% of capital immediately. After two years, it returned 130% of that amount back to investors and an additional 30% at the end of the five year period. This is a 1.6x TVPI.
Alternatively, consider Fund B which also called 100% of capital immediately. It made no distributions for five years and then returned 160% of capital back to investors. This is also a 1.6x TVPI.
Even though the two private equity funds have the same TVPI, Fund A clearly performed better than Fund B. Investors could have taken the initial distribution from Fund A and reinvested it for the remaining years, whereas investors in Fund B had a total return of 1.6x.
While TVPI is important, time matters and the time value of money matters. This is why investors should never only look at TVPI. They should also look at IRR and/or understand the timing of the cashflows that generated the TVPI figure. Read my summary on TVPI vs IRR.
TVPI May Not Represent Cash on Cash Returns
The PI in TVPI stands for Paid-In capital, which technically means capital that meets a capital call. But what if capital is met by distributions that have been made? In these cases, the cash-on-cash may be higher than TVPI and more representative of the investor’s experience.
Impact of Recycling on TVPI
A private equity fund will commonly be receiving distributions from the assets that it owns at the same time that it is calling capital from investors. Consider a $100 million fund that receives a $5 million distribution and simultaneously needs to make a $5 million investment. A popular tactic is to use the proceeds to fund the capital call (rather than distributing the $5 million and then issuing a capital call for them to send it back). In this case, the Total Value (numerator) is increasing and the Paid-In capital (denominator) is increasing, but the investor has not contributed any more cash. So the Cash-on-Cash (CoC) return is higher than what the TVPI indicates. Many funds market their “Max Out Of Pocket” exposure, which is another way of saying what percent of an investor’s commitment they end up actually contributing (once recycling is accounted for).
Recallable Distributions (and other shenanigans)
Some private equity funds may distribute capital back to investors very early and classify it as a recallable distribution, meaning that it can be called again. The impact on TVPI is that it reduces the denominator, so TVPI numbers increase. Funds may also make distributions early on (even if they are going to recall it again) because it can permanently increase the IRR metrics. I’m not a huge fan of these recallable distributions, but they are out there and it is important to understand how they can impact TVPI and other performance metrics. The main point here is that fund can play (what I consider) games by re-classifying cash flows.