MaxMult: A New Performance Metric for Private Equity

By: Barry Griffiths

Investors in private equity have always faced a challenge in measuring performance. Private equity investments are illiquid and cashflows are generally not under the investor’s control. As a result, it can be critical to characterize investment results for a time-varying portfolio of equity interests, over a period of years. This is not an easy task.

Many performance metrics have been devised to address this problem, including both measures of rate of return and measures of multiple. Measures of rate of return include the Internal Rate of Return (“IRR”), Modified IRR (“mIRR”) and various Public Market Equivalent rates (including our contribution, Direct Alpha). Measures of multiple include Total Value to Paid In (“TVPI”) and Distributed to Paid In (“DPI”), among others. These measures of rate of return (i.e. IRR, mIRR and PME) suffer from complexity in both calculation and interpretation. These issues have been widely discussed in the literature and we won’t repeat those arguments here.

As a result, many investors put more trust in measures of multiple. After all, multiples are easy to compute and seem to be easy to interpret. In fact, while multiples are simple to compute, the apparent simplicity of interpretation is an illusion. As private equity practitioners understand, multiples can often be manipulated very easily. For example, the accounting methods and policies regarding the recycling of distributable cash in order to be re-invested in new opportunities differ considerably from fund to fund. In this white paper we demonstrate how such differences can often inflate performance and lead to widely-varying reported results for exactly the same economic situations.

However, all is not lost. We also describe a new performance measure that is not susceptible to this kind of manipulation. We call this metric Net Value divided by Net Paid (“NVNP”). It replaces, and is more reliable than, TVPI. Since “NVNP” is somewhat cumbersome, we will also call this multiple “MaxMult”.

Finally, we conclude with a word of warning. Some practitioners report metrics that appear superficially similar to MaxMult. However, as we show in this paper, some of these reported metrics are meaningless because they double-count some cashflows, and fail to include others. Again, such metrics can be wildly misleading and should be avoided.

The above is a brief synopsis of the white paper referenced in the title. It is not itself a complete record of that paper and cannot be relied upon in isolation. A copy of the full white paper is available upon request.

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