Venture Fund Portfolio Construction | Journal | Kauffman Fellows

Portfolio construction is the careful calculus of a number of different decisions related to how a fund is run and the impact that each of those inputs have on each other . The major contributing factors to portfolio construction are:

Follow-On Reserves: The percentage of the fund that will be reserved to make follow-on investments into the fund’s best-performing companies. Some funds have a two-for-one follow on ratio meaning that for every dollar they first invest into a company, two more dollars are reserved for follow-on, while other funds aim to take a larger ownership per

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One of the most important things a General Partner (GP) needs to consider early on when starting a venture fund is their portfolio construction strategy. Portfolio construction will impact nearly every aspect of running a fund, including return performance. 

Required Return Fund Capital to Targeted Net Return: Going off the example above, if a fund is targeting a 3x net return, meaning they wish to pay to their investors $3 for every $1 invested, the required fund return to hit 3x is actually higher than $300M given fees and carry. It is important to understand the total required return needed to hit

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Fund Level Expenses: In addition to the management fees that are paid to the management company for running the fund, there are other expenses that are deducted directly from the fund assets. These fees include legal set-up costs, fundraising expenses and other administrative, legal and infrastructure costs. These costs can range from $250K on the

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Fee and Expense Recycling: Fee recycling is reinvesting the fund expenses and management fees (usually as follow-on investments) as distributions occur. For a $100M fund with a 2% yearly management fee, there will be $20M in total management fees taken over the life of the fund. Many funds look to reinvest the full fund into companies and will inv

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Some funds perform “return the fund” analysis before making an individual investment. This analysis essentially looks to understand what value a given company would have to exit at to both return the fund as well as hit the targeted net return given assumed dilution over time.