Return On Invested Capital (ROIC) is a common metric used in describing the performance of an early stage fund. Common ROIC targets (Rt) for seed funds are 3.0x – 5.0x (higher the better). Over N portfolio companies at initial check size (assumed to be constant) i, this is just Rt.N.i (for example a $50m fund at 5.0x ROIC is $250m = 5.0x.50.1m ).
It is very difficult to attribute success outcomes to portfolio companies at the earliest investment stage (will this be $3b exit or $300m exit?) so we can look at the portfolio aggregate exit value, or the Implied Portfolio Market Cap on exit (IPMC). That way we don’t need to assign individual success outcomes to specific companies but just look at the overall market value of our portfolio at exit. This can be represented as:
When pr is 0 (no reserves for pro rata) IPMC generalizes to:
This states that adding more portfolio companies generates a higher required portfolio market cap on exit (all else being equal). Looking at an example, say we had a portfolio where our return target is 5.0x, we invest in 30 companies (N = 30), at first check of $10m post money (Vpost = $10m), not executing pro rata (d = 0.5) our required combined exited market cap is $3b. So we would need at least $3b in exited value from our 30 companies to achieve 3.0x ROIC (Note: if we had executed every pro rata opportunity, d = 1, and IPMC = $1.5b).
Indeed we can calculate the marginal increase in IPMC for every new portfolio company added (just set d = 0.5, Rt = 5.0x, Vpost = $10m). In this generalized scenario, adding another portfolio company (independent on initial check size) adds another $100m to the required portfolio market cap on exit .
We can use IPMC as a way to 'sanity check' the construction of our portfolio. Will we see/have access to enough high quality companies to generate a portfolio with $3b in combined exited value?
It is also helpful in the initial portfolio construction process. The below chart shows the IPMC for different targeted ROIC scenarios at different levels of aggregate ownership at exit. (based on a $50m fund). We can see that as ownership decreases, IPMC increases exponentially (this is also bad given the IPMC is tied to underlying portfolio company performance which is modeled as a power law).
 This is the simple case where there are no reserves for pro rata
 It should be noted that in the power law environment this marginal contribution model makes a little less sense since the fund returns are not made up of a little return from many companies but in fact the opposite: a large return from a small number of companies. I still believe this framework is of strong value; even if returns come from just one company, this can still be represented in this model.)