Case 078Paper LBOsCore

Paper LBO where revenue must be built from furnaces, tonnes and price before any multiple is applied, with a third furnace bought in year 3. Work the return.

Bain CapitalBoston · 2024

The situation

Hemadri Glassworks makes container glass. It runs two furnaces, each rated at 300 tonnes a day, for 340 operating days a year at 90% utilisation, and sells every tonne at Rs 45,000. EBITDA margin is 22%. A sponsor buys it at 7.0x EBITDA with debt of 4.0x EBITDA at 10% interest on the opening balance.

Depreciation and maintenance capex are both Rs 40 crore a year; tax is 25%; working capital is flat; all free cash flow repays debt. At the end of year 3 the company builds a third identical furnace for Rs 150 crore, paid from that year's cash with the shortfall drawn on the term loan, which runs from year 4 at the same utilisation and price. The sponsor exits at the end of year 5 at 7.0x.

Your task

Build revenue and EBITDA from the physical numbers, then the sources and uses, the five years of cash, and the money multiple and IRR.

Quick check

Before the arithmetic: what is yearly revenue, roughly?

Worked solution

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

30-second answerThe answer to give first

Revenue is Rs 826 crore, EBITDA Rs 182 crore, and the sponsor makes about 2.7x, an IRR near 22%. Entry at 7.0x is Rs 1,272 crore with Rs 727 crore of debt and Rs 545 crore of equity. The third furnace lifts EBITDA to Rs 273 crore from year 4. Exit at 7.0x is Rs 1,909 crore less Rs 458 crore of debt, Rs 1,450 crore of equity.

Step 1Why build revenue from the furnaces instead of taking a number?

Because the interviewer has hidden the test in the build, not in the multiple. A tea stall's takings are cups a day times days open times price; nobody gives you the takings. Two furnaces at 300 tonnes a day is 600 tonnes; 340 days makes 204,000 tonnes of capacity; 90% utilisation sells 183,600 tonnes; at Rs 45,000 a tonne that is Rs 826 crore. Rs 45,000 times 183,600 is 826.2 crore, and saying the unit conversion out loud, a crore is ten million, is part of the answer. EBITDA at 22% is Rs 182 crore.

Two furnaces at 300 tonnes a day for 340 days at 90% utilisation sell 183,600 tonnes, Rs 826 crore of revenue and Rs 182 crore of EBITDA; the third furnace lifts the chain by half from year 4, to Rs 1239 crore and Rs 273 crore, and every later number inherits that logic.

Step 2What are the sources and uses, and how does the cash flow?

Entry is 7.0x of 181.8, Rs 1,272 crore. Debt is 4.0x, Rs 727 crore, so equity is Rs 545 crore. Each year's free cash flow is EBITDA less interest on opening debt, less tax on profit after depreciation and interest, less capex; in year 3 capex jumps by Rs 150 crore for the furnace. Year 1: interest 72.7, tax 17.3, capex 40, cash 51.8. In year 3 the furnace costs more than the year's Rs 59.9 crore of cash, so debt rises by Rs 90.1 crore that year, and from year 4 EBITDA steps up to Rs 272.6 crore.

Year	EBITDA	Interest	Tax	Capex	Cash to debt	Debt at year end
1	181.8	72.7	17.3	40	51.8	675.3
2	181.8	67.5	18.6	40	55.7	619.6
3	181.8	62.0	20.0	190	-90.1	709.7
4	272.6	71.0	40.4	40	121.3	588.5
5	272.6	58.8	43.4	40	130.3	458.1
Total					268.9	458.1

Rs crore. Debt falls from Rs 727 crore to Rs 458 crore over five years; the year 3 furnace pushes debt up by Rs 90.1 crore that year, and the step-up in EBITDA from year 4 repays faster than the first three years did.

Step 3What does the sponsor make, and what did the furnace earn?

Exit EBITDA is Rs 272.6 crore at 7.0x, Rs 1,909 crore. Less Rs 458 crore of debt leaves Rs 1,450 crore against Rs 545 crore in. That is 2.66x, and 2.7x in five years is an IRR in the low twenties, 22% exactly. The furnace cost Rs 150 crore and adds Rs 90.9 crore of EBITDA a year, worth Rs 636 crore at the exit multiple: a capacity investmentCapital spent to add physical output, valued by the extra earnings it produces times the exit multiple, less what it cost. that returns more than four times its cost inside the hold, which is why the plan is worth more than the base business alone.

The relationship

\text{MOIC} = \frac{1,909 - 458}{545} = 2.66\times \qquad \text{IRR} = 2.66^{1/5} - 1 \approx 22\%

1,909	exit enterprise value, 7.0x EBITDA of 272.6
458	debt left at the end of year 5
545	sponsor equity at entry

What it says in wordsThe money multiple is exit equity over entry equity, and the IRR is the yearly rate that compounds one into the other over five years.

Then say the limit of the build. Every number downstream assumes 90% utilisation and Rs 45,000 a tonne hold for five years, and glass prices follow soda ash and gas. A revenue line built from capacity tells you exactly which two assumptions to stress, which a revenue line taken as given never does.

Where candidates lose it

The usual loss is in the build: skipping the 90% utilisation, or multiplying by 365 days, or losing a zero in the tonnes-to-crore conversion. Each one is small on its own and all of them flow through to the exit value.

The second miss is forgetting that the furnace is paid for in year 3, so debt ends that year higher, not lower. Adding the extra EBITDA without the Rs 150 crore of capex overstates the return by about half a turn.

What the interviewer asks next

Price falls to Rs 40,000 a tonne from year 2. What is the IRR now?
Would you fund the third furnace with a Rs 150 crore add-on to the term loan instead, and what does that do to the equity return?
Utilisation on a new furnace is 70% in its first year. How much does that cost the exit?

Asked at Bain Capital, Generalist, Boston, 2024 (Wall Street Oasis): There were some trickier science/math aspects to the revenue build which I don't think you can really prepare for

Company names and figures are illustrative.