Portfolio Management: What it is and How Visible Can Help
Portfolio Management in Venture Capital is a process used by VC investors with the ultimate goal of protecting and increasing the value of their investments. Proper portfolio management is a cumulation of intelligent decision making, information analysis, and resource commitment all aimed to achieve the value increase and stability of the range of investments.
More specifically, portfolio management in venture capital consists of the following:
Market Research and Oversight – venture capitalists need to be extremely savvy and up-to-date with the most relevant and real-time information about the industries their investments sit in. Typically, VC firms specialize in a type of investment (seed, later-stage, > 10 million etc..) and sometimes they are industry specific, but more-often they are industry agnostic. Therefore, the portfolio that a VC is managing may encompass many different industries. Up-to-date research on how each industry and market is growing and flexing is critical knowledge to maintain in order to make smart investment decisions pre-investment, for add-on funding, or as it might pertain to a timely exit strategy.
Risk Profiling – VC investing as a whole is a risky business. However, a clear understanding of how long it will take to gain a return on your investment is critical and goes hand in hand with market research when setting your portfolio management strategy. VCs need to profile how high of a risk each investment will be by understanding how long it will probably take to get their initial investment back (typically 3-7 years) and how likely they are to 2x or 3x their investment. The balance of quick return with high potential is critical to consider when managing new investments for a portfolio.
Exit Strategies – As a VC is first making an investment, they typically write into their investment strategy how they hope to exit the business. This plan includes identifying exit targets and appropriate negotiation engagements in best and worst case scenarios for the business. Strategies might be mergers, acquisitions, buyouts, or public offerings. An ideal plan is important to outline across your portfolio management strategy to better mitigate risk and understand the potential outcomes and value of your portfolio.
How Exactly Does Portfolio Management Work?
More experienced venture capitalists will use their past experiences to determine patterns in investment strategies and the most effective way to interpret different potential investment outcome scenarios. Ultimately, portfolio management in venture capital comes down to understanding the delicate balance of qualitative and quantitative information about the investments in your portfolio.
Portfolio management internally within the VC consists of market research and oversight, risk profiling, and formulating numerous potential exit strategies. In order to work through these steps, a VC will need information from the founder or team looking for an investment in-order to make informed portfolio management decisions. VCs are looking for a mix of metrics and qualitative data from potential investments. If you’re a founder looking for a quick way to summarize this data, we recommend learning more about tear sheets here.
Portfolio Management Metrics
- Financials and cash position – A VC wants the honest truth about how your company is positioned financially. They will want to know what your monthly and yearly operating budgets are, any profits to date (and growth over time), how much money you have previously raised, and how much runway you have left from current investments. This information will help a VC determine if an investment in your company fits into their portfolio, how big of an investment to consider, and what a potential exit strategy might be.
- True North KPIs – Depending on the type of business you are operating, this might differ. However, you should always include your revenue goals. Your true north KPIs should be the key performance indicators that are guiding your business every single day. Beyond revenue goals, examples of other KPIs could be active users, a customer net promoter score, active customers, or average contract value. These KPIs will help a VC determine how much risk they are taking while investing in you.
- Ownership and Cap Table Data – If a VC is looking to make a new investment, an important component they will consider for their portfolio management is how much ownership they will have in the company. As a founder seeking investment, be sure to transparently include what percent of the company is available in exchange for investment (if any) and how much is already taken. In addition to a clear ownership break-down, share information about your companies securities (stock options etc..). This information will be extremely relevant as the VC determines how to structure a potential investment deal.
Portfolio Management Qualitative Information
- Overview of the Company – Be sure to share a brief overview of your company. This should be a clear highlight of what you do, when you were founded, and the vision of the company. This information will allow a VC to understand if the investment ideology they manage their portfolio on is in-line with the vision and mission of their potential investment.
- Board Information – List clearly who your current board members are and what interests they represent. As a VC is considering making a sizeable investment, a transparent understanding of the dynamics with other investors will be critical when considering potential conflicts or great partnerships and ultimately inform smart portfolio management.
- Wins from Previous Period – Don’t be shy. Be sure to highlight your most recent, and impressive wins as a company. This will energize and excite a VC who is looking for the opportunity to invest and win-big. This information will also clarify and potentially ease any hesitation that a VC might have when considering the risk a new investment might add to their portfolio.
The VC Advantage
Venture capitalists take portfolio management so seriously because they of course want to see their portfolio investments succeed and make money. Therefore, outside of putting down the initial investment, venture capitalists usually incorporate many other touch-points and opportunities to help their investments succeed. Outside of the fiscal advantage VC investments provide, a close relationship with your investors and VCs can be the competitive advantage that makes or breaks a company.
Ultimately, VCs want to help their portfolio companies because it helps themselves. In addition to actively monitoring the metric performance of their portfolio, VCs want to offer assistance in any way that they can to give their investments a competitive advantage. These competitive advantage points are also a part of a successful portfolio management strategy. VCs help their portfolio companies in a variety of ways:
- Taking action on metrics – As mentioned above, VCs are providing continuous oversight for their portfolio investments. VCs will be monitoring their companies profits, customer churn, average deal size, and more. A VC will be ready to provide action steps and advice to improve metrics quickly. Drawing form experience managing other investments, they will have insight into what works and what to avoid or change in order to succeed.
- Hiring decisions – VC partners are often ex-founders who have successfully built and exited one ore more companies. They are experienced in hiring founding teams and can help advise what roles are the most critical to higher first. Additionally, VCs networks are deep and wide. You may have the chance to hire a seasoned CFO or CMO through an intro by your VC. Hiring the right people is critical to success and leaning on a VC partner to do so may allow you to access folks that wouldn’t have given the business a look prior to your investment from said firm.
- Fundraising assistance – Fundraising is exhausting but necessary as you grow your business. After partnering with a VC for an early round, they will want to ensure the right investment partners come onboard for later rounds. If you’re on a track to succeed, leaning on existing VC relationships to find additional investors is a smart idea. Your existing VC will want to work with other firms or angels they get along with or align with ideologically and will often go above and beyond to help you make new connections and raise a new round of funding.
- Strategic product decisions – With a close eye on the market, a VC can be a good sounding board for what pivots or iterations to make to your product. It’s easy to get stuck in a silo, only focusing on the details of your product. A VC can provide helpful advice on what decisions to make that better keep in mind the market and competitors, even providing tough love on what product decisions might not be right.
In addition to the advantages that VCs provide, a newer model for VC, the studio, has emerged that takes the VC advantage to the next level. Check out High Alpha to learn more about the VC studio model.