Case 027Credit analysis and lendingCore

Kaustubh Software borrows a Rs 600 crore unitranche at 5.0x EBITDA with a PIK toggle. If it pays in kind for three years while EBITDA grows 10% a year, what are debt and leverage at the end, and what should the lender make of it?

Ares ManagementLos Angeles · 2026

The situation

Kaustubh Software sells billing software to hospitals. A private credit fund lends it a Rs 600 crore unitranche loan, 5.0x its EBITDA of Rs 120 crore, with no amortisation before maturity. Interest is 11% paid in cash, or, at the borrower's option each year, 13% paid in kind: the interest is added to the loan instead of being paid.

The sponsor's plan has EBITDA growing 10% a year. The company tells the lender it will use the toggle for the first three years to fund product development.

Your task

Work out debt, EBITDA and leverage at the end of year 3 under the toggle, compare with paying cash, and say what this tells the lender.

Quick check

EBITDA grows a third over three years. With the toggle on, what happens to leverage?

Worked solution

Try it on paper, then open one step at a time.

30-second answerThe answer to give first

Debt compounds to about Rs 866 crore and EBITDA to about Rs 160 crore, so leverage rises from 5.0x to about 5.4x. Paying cash would have left debt at Rs 600 crore and leverage near 3.8x. The toggle lets leverage climb even while the business grows, because 13% compounding beats 10% growth. The lender should treat a toggle used from day one as a sign of thin cash, and protect itself in the documents.

Step 1What does paying in kind actually do to the loan?

Think of a credit card where you pay nothing and the interest is added to the balance: next month you pay interest on the interest. PIK interestPayment in kind: interest that is added to the loan balance instead of being paid in cash, so it compounds. compounds the loan at the PIK rate, here 13% a year, with no cash leaving the company. Rs 600 crore becomes 678.0, then 766.1, then 865.7 crore. The borrower saves Rs 66 crore of cash interest a year and pays two points more for the privilege.

The relationship
D3=600×1.133=865.7EBITDA3=120×1.103=159.7D_3 = 600 \times 1.13^3 = 865.7 \qquad \text{EBITDA}_3 = 120 \times 1.10^3 = 159.7
D_3loan balance at the end of year 3 with interest paid in kind
1.13one plus the 13% PIK rate
1.10one plus the 10% EBITDA growth rate
What it says in wordsDebt grows at 13% a year and EBITDA at 10%, so their ratio climbs by roughly 3% a year.
Step 2How do the two choices compare after three years?
The same company, two interest choices: debt and leverage over three yearsDebt at year end, Rs crore600Year 0EBITDA 120678Year 1EBITDA 132766Year 2EBITDA 145866Year 3EBITDA 160cash interest: flat at 600PIK at 13%: compoundsDebt / EBITDA, times3.0x4.0x5.0x6.0xYear 05.14x4.55xYear 15.28x4.13xYear 25.42x3.76xYear 35.0x at entryEBITDA grows 10% a year in both lines
Paying cash, Kaustubh's debt stays at Rs 600 crore and leverage falls from 5.0x to 3.76x as EBITDA grows; paying in kind at 13%, debt reaches Rs 866 crore and leverage rises to 5.42x despite the same growth.
End of yearEBITDADebt, cash payLeverage, cash payDebt, PIKLeverage, PIK
0120.0600.05.00x600.05.00x
1132.0600.04.55x678.05.14x
2145.2600.04.13x766.15.28x
3159.7600.03.76x865.75.42x
Rs crore. Under the toggle the loan grows by Rs 266 crore in three years, Rs 68 crore more than the Rs 198 crore of cash interest the company avoided paying.

The gap between the two lines is the whole story: the same business ends at 3.8x or 5.4x depending on one election. And the loan grew by Rs 266 crore, more than the Rs 198 crore of cash interest saved, because the 13% rate compounds on a growing base.

Step 3What should the lender read into it?

Three things. First, cover. In year 3 the interest accruing is about Rs 100 crore against EBITDA of Rs 160 crore, about 1.6x, and none of it is being paid. A borrower that toggles from day one is telling you its cash is thinner than the plan says. Second, value cover: if the business is worth 8x EBITDA, the loan was 62.5% of value at entry and is 67.8% after three years, so the lender's cushion has shrunk while the sponsor's plan was on track.

Third, the documents. Lenders who accept a toggle usually cap how many periods can be paid in kind, test the leverage covenant on debt including accrued PIK, and charge a premium over the cash rate, as here. The judgement to give out loud: the toggle is a liquidity tool, the price of it is rising leverage, and a lender should know before closing how many years it is likely to be used and what the company will do with the cash it keeps.

Where candidates lose it

The usual miss is saying leverage falls because EBITDA is growing. It falls only if debt grows more slowly than EBITDA, and a 13% PIK rate grows faster than 10% EBITDA growth.

The second is computing PIK as simple interest, adding Rs 78 crore three times to get Rs 834 crore. PIK compounds, which is why the answer is about Rs 866 crore.

What the interviewer asks next

  • What EBITDA growth rate would keep leverage flat with the toggle on?
  • How would you write the leverage covenant so that accrued PIK cannot hide from it?
  • The sponsor offers to pay cash in year 3 if EBITDA beats plan. Is that worth anything to you?

Asked at Ares Management, Credit, Los Angeles, 2026 (Wall Street Oasis): First 1v1 they said was mainly behavioral had PIK question

Company names and figures are illustrative.