Case 092Growth equity and softwareHard

Take-home SaaS case: ARR Rs 250 crore, net revenue retention 115%, gross churn 8%, new ARR Rs 60 crore a year. Project ARR for five years, value it at 8x, and show what happens if retention falls to 100%.

The situation

Pratyaya Payroll sells payroll and compliance software to mid-sized Indian employers on annual subscriptions. Annual recurring revenue (ARR) is Rs 250 crore. Over the last year, customers who were on the books at the start now pay 115% of what they paid then: 8% of ARR was lost to churn and downgrades, and existing customers added 23% through more employees and new modules. The sales team signs Rs 60 crore of new ARR a year and expects to hold that pace.

Software businesses of this size and quality have been trading at about 8x ARR. The case asks for a five-year ARR build, a value, and a sensitivity on retention.

Your task

Build ARR year by year, separating the existing base from new cohorts, value the business at 8x ARR in year 5, and show the ARR and value if net retention is 100% instead of 115%.

Quick check

If the sales team signed nothing for five years, what would ARR do?

Worked solution

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

30-second answerThe answer to give first

ARR reaches about Rs 907 crore in year 5, worth about Rs 7,259 crore at 8x; at 100% retention it reaches only Rs 550 crore, worth Rs 4,400 crore. Each year the existing book grows 15% and Rs 60 crore of new ARR is added, so ARR compounds at about 29% a year. The base alone grows to Rs 503 crore with no new customers. Retention is worth Rs 2,859 crore of exit value, more than the Rs 300 crore of ARR the sales team signs in five years.

Step 1What does 115% net retention actually say?

That the customers you already have pay more next year than this year, after the ones who leave. Think of a tiffin service: some customers stop, but the rest add a second meal, and the total from last year's customers rises. Gross churn of 8% removes Rs 20 crore from the Rs 250 crore base, expansion of 23% adds Rs 57.5 crore, so the base is Rs 287.5 crore before a single new logo, and net revenue retentionARR today from the customers you had a year ago, divided by their ARR a year ago. Above 100% means expansion outweighs churn. above 100% means the book grows even if sales stop. That is the property a software buyer pays 8x ARR for, and the first thing the take-home is testing is whether you know the churn is already inside the 115%.

Step 2How does ARR build year by year?

Carry the base forward at 115% and add Rs 60 crore of new ARR each year; from the year after it arrives, each new cohort also grows at 115%. Year 1 is 250 times 1.15 plus 60, Rs 347.5 crore; year 2 is 347.5 times 1.15 plus 60, Rs 459.6 crore; by year 5 ARR is Rs 907.4 crore, a compound rate of about 29%. Of that, the original base is Rs 503 crore and the five new cohorts, Rs 300 crore of ARR at signing, have grown to Rs 405 crore.

The original Rs 250 crore base grows to Rs 503 crore by itself at 115% net retention, and each year's Rs 60 crore cohort becomes a layer that grows after it arrives, so total ARR reaches Rs 907 crore in year 5.

Rs crore	Now	Year 1	Year 2	Year 3	Year 4	Year 5
ARR at 115% retention	250	348	460	589	737	907
of which original base	250	288	331	380	437	503
ARR at 100% retention	250	310	370	430	490	550
Value at 8x ARR, year 5						7,259 against 4,400

At 115% retention ARR compounds from Rs 250 crore to Rs 907 crore; at 100% the base stands still and only the Rs 60 crore of yearly new sales adds, reaching Rs 550 crore, so the two paths are Rs 2,859 crore apart at 8x.

Step 3What if retention falls to 100%?

Then the base stops growing and every rupee of growth must be sold. ARR becomes 250 plus 60 a year, Rs 550 crore in year 5, a compound rate of about 17% instead of 29%, and the value at 8x falls from about Rs 7,259 crore to Rs 4,400 crore. The honest second half of that sensitivity is that a business growing 17% with flat retention would not command 8x ARR, so the real fall in value is larger than the arithmetic shows. Retention is worth Rs 2,859 crore at the same multiple, which is why diligence on a software company starts with cohort data, not the sales pipeline.

With the same Rs 60 crore of yearly new sales, ARR reaches Rs 907 crore at 115% net retention and only Rs 550 crore at 100%, a difference of Rs 2,859 crore at 8x, which is more than all the new ARR sold in the period.

Close with what you would ask for. Retention by cohort and by customer size, because 115% can be one large customer expanding while small ones churn; the split of expansion between more employees, which is the customer's growth, and new modules, which is Pratyaya's; and the gross margin, since 8x ARR assumes software margins. A take-home that shows the build, the sensitivity and the questions it raises reads like an investment memo, which is the point of setting one.

Where candidates lose it

The usual loss is subtracting the 8% churn again on top of the 115%, projecting the base at 107%. Net retention is net of churn; the 8% is given so you can show you know it is already inside.

The second is growing only the original base and adding new ARR as a flat Rs 60 crore a year that never expands. New cohorts retain and expand too, and leaving that out understates year 5 ARR by about Rs 100 crore.

What the interviewer asks next

New ARR grows 10% a year instead of staying flat at Rs 60 crore. What is year 5 ARR?
Gross churn rises to 15% while expansion stays at 23%. Rebuild the five years.
Why might a buyer pay 8x ARR for this business and 4x for one growing at the same rate with 100% retention?

Company names and figures are illustrative.