Case 097Growth equity and softwareCore

A growth fund puts Rs 150 crore in for 15% of an edtech company with Rs 200 crore of revenue growing 40%. What exit value gives 3x in five years, and what revenue and multiple does that need?

The situation

Lipika Edtech runs online test preparation for engineering and medical entrance exams. Revenue is Rs 200 crore, growing 40% a year, and the company is roughly breakeven. A growth fund proposes Rs 150 crore of primary capital for a 15% stake after the money goes in. The fund's model targets 3x on its cheque in five years.

The write-up must show the exit value the target needs and the revenue and revenue multiple that would get there, with the fund's current entry multiple as the reference point.

Your task

Work the post-money value and entry multiple, the exit equity value that returns 3x, and the combinations of year 5 revenue and multiple that reach it. Then say what the fund is actually betting on.

Quick check

The fund pays Rs 150 crore for 15%. What revenue multiple is it paying today?

Worked solution

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

30-second answerThe answer to give first

The fund needs Rs 450 crore for its 15%, so an equity value of Rs 3,000 crore at exit, three times today's Rs 1,000 crore post-money. At the 40% plan revenue reaches Rs 1,076 crore in year 5 and the exit needs only 2.8x revenue, below today's 5x. At today's 5x the company needs Rs 600 crore of revenue, a 25% CAGR. At 3x it needs Rs 1,000 crore, a 38% CAGR. The bet is on scale and multiple together, before any dilution.

Step 1What does the cheque say about the price?

Gross the stake up to the whole. Paying Rs 15 lakh for a 15% share of a shop values the shop at Rs 1 crore, whatever the shop's takings. Rs 150 crore for 15% is a post-money valuationThe value of the company immediately after the new money goes in, equal to the cheque divided by the stake it buys. of Rs 1,000 crore, and against Rs 200 crore of revenue that is 5x, the number every exit scenario is measured against. The pre-money is Rs 850 crore; the Rs 150 crore goes into the company, not to the founders, which is why it is called primary and why the fund will ask what it buys.

Step 2What exit does 3x need?

Work backwards from the fund's money. Three times Rs 150 crore is Rs 450 crore; if the fund still owns 15%, the whole equity must be worth Rs 3,000 crore, three times today's value. That can be reached with revenue and multiple in any combination whose product is Rs 3,000 crore: at the 40% plan, revenue is Rs 1,076 crore in year 5 and the multiple needed is only 2.8x; at today's 5x the revenue needed is Rs 600 crore, a 25% CAGR; at 3x, which is where a slowing edtech company might trade, the revenue needed is Rs 1,000 crore and the CAGR 38%, nearly the entire plan.

Equity value at exit, Rs crore: the green cells are where Rs 150 crore becomes Rs 450 croreExit revenue, Rs crore (today 200, growing 40%)4006008001,0001,200Multiple2x revenue8001,2001,6002,0002,4003x revenue1,2001,8002,4003,0003,6004x revenue1,6002,4003,2004,0004,8005x revenue2,0003,0004,0005,0006,0006x revenue2,4003,6004,8006,0007,200today: 5xrevenueAt today's 5x: needs revenue of 600, a 25% CAGR, well under the 40% plan.At 3x: needs revenue of 1000, a 38% CAGR, almost the whole plan.The 40% plan reaches 1076 and needs only 2.8x: the return is a bet on scale and multiple together.Grid ignores dilution from later rounds, which raises every cell's requirement.
Equity value is exit revenue times exit multiple, and the green cells are the combinations at or above Rs 3,000 crore: the 40% plan reaches Rs 1,076 crore of revenue and needs only 2.8x, while at today's 5x the company needs Rs 600 crore, a 25% CAGR.
Exit multipleRevenue needed, Rs croreCAGR neededAgainst the 40% plan
6x50020%half the plan
5x (today)60025%well under
4x75030%under
3x1,00038%almost all of it
2.8x1,07640%the plan exactly
Each row is a different bet: at a multiple near today's the plan can miss by a wide margin and still return 3x, while at 3x revenue the company must deliver almost the whole 40% a year for five years; the fund's write-up should say which row it is underwriting.
Step 3What is the fund actually betting on?

Two things, and it should name both. First, that revenue roughly triples, which on a 40% plan happens by year 3; second, that a buyer in year 5 still pays several times revenue for a test-prep business, which depends on margins having appeared by then. At 5x today the fund is paying for the growth up front, so the return comes from the company becoming large and profitable, not from multiple expansion. Then the write-up's missing line: dilution. If the company raises one more round that dilutes existing holders by 20%, the fund's 15% becomes 12%, and the equity value needed for 3x rises to about Rs 3,750 crore. Anti-dilution and pre-emption rights in the term sheet are how the fund keeps the grid honest.

Where candidates lose it

The usual loss is reading 3x as three times the revenue or three times the multiple. It is three times the equity value the fund paid for, and the revenue and multiple can trade off against each other to get there.

The second is holding the stake at 15% for five years. A growth company raises again, and every later round moves the exit value the fund needs; a write-up that ignores dilution has overstated its own return.

What the interviewer asks next

  • The company raises Rs 300 crore at Rs 2,000 crore post-money in year 2. What does the fund now need at exit for 3x?
  • A 1x liquidation preference on the fund's shares: how does it change the downside at a Rs 600 crore exit?
  • Why do growth funds quote revenue multiples when buyout funds quote EBITDA multiples?

Company names and figures are illustrative.