Portfolio Construction
Check size, reserves, follow-on, and the math behind a great portfolio
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The Math
Start with fund size, subtract management fees (typically 15-20% over the fund's life), and the remainder is your investable capital. If you have a $50M fund with $42M investable, and you want to make 25 initial investments, your average initial check is ~$1.7M. But you also need follow-on reserves — typically 40-60% of the fund is held back for follow-on investments in your best companies.
Diversification vs Concentration
The central tension in portfolio construction: invest in more companies (diversification) to increase your chances of finding a winner, or invest in fewer companies (concentration) to have enough ownership to generate meaningful returns? Most seed funds invest in 30-50 companies. Series A/B funds invest in 15-25. Growth funds might have just 5-10 positions. The right answer depends on your stage, thesis, and return targets.
Follow-On Strategy
Reserve ratio is the percentage of your fund held back for follow-on investments. If a portfolio company is performing well, you want to invest more in subsequent rounds to maintain or increase your ownership. The standard framework: reserve 1.5-2x your initial check for follow-on. So if your initial check is $1M, reserve $1.5-2M for follow-on into that same company.
The Power Law
VC returns follow a power law distribution — a small number of investments generate the vast majority of returns. In a 25-company portfolio, 1-3 companies will likely drive 80%+ of the fund's total returns. This means losing money on most investments is expected and acceptable, as long as the winners win big enough. Fund-returning investments (a single company that returns the entire fund) are the ultimate goal.