Stress test the model: base EBITDA Rs 100 crore, debt Rs 550 crore, leverage covenant 6.0x. In the downside, revenue is flat at Rs 700 crore and margin falls 300 basis points. Does the company breach, and what does IRR fall to?

Yes, the downside breaches: EBITDA falls to Rs 79 crore and leverage to 6.96x against a 6.0x covenant, and the IRR falls from about 18% to about -13%. Three hundred basis points on Rs 700 crore is Rs 21 crore of EBITDA; the covenant allows only Rs 8.3 crore of loss. Even after year 1 cash repays some debt, leverage is 6.92x at the first test. The equity is worth about 0.5x at a 9x exit, and the covenant is broken in year one, so the lender holds the company before the sponsor does.

Not the return: the lender's cushion. A bank that lends against a salary sets a limit on the loan as a multiple of income, and a pay cut can break the limit long before the borrower is in trouble. Rs 550 crore of debt at a 6.0x covenant needs EBITDA of at least Rs 91.7 crore, so the company can lose only Rs 8.3 crore, 8.3%, before the lender can call a default. Half a turn of headroom at close is thin, and the first question in any model debrief is how many points of margin that half turn represents.

Convert the basis points into rupees. Margin falls from 14.3% to 11.3%; on Rs 700 crore of revenue that is Rs 79 crore of EBITDA, Rs 21 crore less, and Rs 550 crore over Rs 79 crore is 6.96x, nearly a full turn through the covenant. Year 1 cash of about Rs 3 crore repays a little debt, so leverage at the first test is 6.92x, still a breach. The downside passes only if debt were Rs 474 crore or less, or if the margin loss were capped near 8% of EBITDA, which is what a covenant resetA renegotiation of the covenant levels with the lender, usually in exchange for a fee, a higher margin or tighter terms elsewhere. conversation would be about.

With EBITDA flat at Rs 79 crore, less cash repays debt, so debt at exit is about Rs 533 crore instead of Rs 366 crore, and exit equity at 9x is Rs 178 crore against Rs 804 crore in the base. The IRR falls from about 18% to about -13%, 0.51x the money, and to about -22% if a buyer pays 8x for a business that has not grown; with Rs 550 crore of debt against Rs 79 crore of EBITDA, almost no cash reaches the loan and the equity is worth half what went in. A stress case that reports only the IRR says the sponsor loses half its money in year 5; one that tests the covenant says the lender gets a seat at the table in year one, which is sooner and worse. The partner asked for the second kind.

Close with what you would change. Either less debt, Rs 474 crore passes the downside, or a covenant set at 7.0x for the first two years with a step-down, or an equity cure right that lets the sponsor inject cash to fix a breach. Say which you would ask for and what it costs, because the model's job is to put a price on the cushion before the lender does.