Case 090Growth equity returnsCore

Danthik Dental plans to buy 40 single-dentist clinics at 5x EBITDA of Rs 60 lakh each, add Rs 15 lakh of EBITDA per clinic through shared procurement, and sell the platform at 14x. How much does multiple arbitrage contribute compared with the operating improvement, and what breaks the plan?

The situation

Danthik Dental wants growth equity to roll up single-dentist clinics in tier-2 cities. Each clinic earns about Rs 60 lakh of EBITDA a year, and owners near retirement will sell at around 5x EBITDA. Danthik plans to buy 40 clinics, put them on shared procurement for implants, consumables and equipment, and lift each clinic's EBITDA by Rs 15 lakh.

The founders' deck says that a 40-clinic platform with central management will sell to a larger healthcare group or a buyout fund at 14x EBITDA, the multiple they say larger dental chains command. Ignore debt, tax and the timing of purchases to keep the arithmetic clean.

Your task

Split the planned gain into multiple arbitrage and operating improvement, and say what would break the plan.

Quick check

Of the Rs 300 crore planned gain, how much comes from the multiple rising from 5x to 14x?

Worked solution

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

30-second answerThe answer to give first

Rs 216 crore of the Rs 300 crore gain, 72%, is multiple arbitrage; only Rs 84 crore comes from running the clinics better. Buying Rs 24 crore of EBITDA at 5x costs Rs 120 crore. Re-rating it to 14x adds Rs 216 crore; the extra Rs 6 crore of EBITDA adds Rs 84 crore. The plan breaks if 14x does not arrive: at 8x the gain falls to Rs 120 crore, and at 5x to Rs 30 crore.

Step 1Why does a roll-up make money even before anything improves?

Buy single bananas from ten roadside sellers and sell them as a branded box to a supermarket, and you earn a margin before the bananas improve, because the buyer pays more for a reliable box than for loose fruit. A roll-up buys small businesses at the low multiple small businesses fetch and sells the combined platform at the higher multiple larger, professionally run businesses command; that gap is multiple arbitrageProfit from buying earnings at a low valuation multiple and selling the same earnings at a higher one, without the earnings themselves growing.. It is real, but it is a market price, not something the operator controls.

Step 2How does the Rs 300 crore gain split?

Forty clinics at Rs 60 lakh is Rs 24 crore of EBITDA, bought at 5x for Rs 120 crore. Procurement adds Rs 15 lakh per clinic, so EBITDA rises to Rs 30 crore, and at 14x the platform is worth Rs 420 crore. The original Rs 24 crore of EBITDA, simply re-rated from 5x to 14x, is worth Rs 216 crore more; the new Rs 6 crore of EBITDA at 14x is worth Rs 84 crore. The money multiple is 3.5x, and almost three-quarters of it comes from a multiple the buyer has to agree to pay.

The relationship

420 - 120 = \underbrace{24 \times (14 - 5)}_{216} + \underbrace{6 \times 14}_{84}

24	Rs crore of EBITDA bought
14 - 5	turns of multiple gained between purchase and sale
6	Rs crore of EBITDA added through procurement

What it says in wordsThe gain is the bought earnings re-rated plus the new earnings at the exit multiple.

From Rs 120 crore of purchase cost to a Rs 420 crore exit, Rs 216 crore comes from re-rating bought earnings and Rs 84 crore from the procurement gain, so the plan is mostly a bet on the exit multiple.

A fairer split is debatable: valued at the 5x entry multiple, the procurement gain is worth only Rs 30 crore, and the extra Rs 54 crore is itself multiple expansion on new earnings. Either way, at least 72% of the planned gain depends on the exit multiple.

Step 3What breaks the plan?

First, the exit multiple. At 8x the platform sells for Rs 240 crore, a gain of Rs 120 crore; if no buyer pays more than 5x, the gain shrinks to the Rs 30 crore of operating improvement. A 40-clinic chain with Rs 30 crore of EBITDA may not be large enough for the buyers who pay 14x. Second, central cost: a platform needs a finance team, procurement staff and systems. Rs 5 crore a year of overhead removes Rs 70 crore of exit value at 14x, most of the operating gain. Third, the dentists: if 10 selling dentists leave and their clinics lose half their EBITDA, the platform loses Rs 3.75 crore of EBITDA, Rs 52.5 crore of exit value.

Exit multiple	Exit value, Rs crore	Gain on Rs 120 crore	Money multiple
5x	150	30	1.25x
8x	240	120	2.00x
11x	330	210	2.75x
14x	420	300	3.50x

With EBITDA fixed at Rs 30 crore, the money multiple runs from 1.25x at a 5x exit to 3.5x at 14x, which is why the exit multiple is the assumption to diligence first.

Step 4What would you need to see to back it?

Evidence of the exit multiple: recent sales of dental or similar clinic chains of about Rs 30 crore EBITDA, not just the large chains the deck quotes. Then contracts that keep selling dentists working for three to five years, with part of the price paid later and tied to their clinic's results. Finally a procurement pilot in the first ten clinics, showing the Rs 15 lakh is real before buying the other thirty. The honest pitch says the operating plan is a good business at 5x, and the multiple is upside that has to be earned by building something a large buyer wants.

Where candidates lose it

Candidates credit the whole Rs 300 crore to the operating plan because the deck talks about procurement. The procurement gain is Rs 84 crore at 14x; the other Rs 216 crore is the market paying more per rupee of the same earnings.

The second miss is assuming the large-chain multiple applies to a 40-clinic platform. Size and quality of earnings set the multiple, and a platform that still depends on individual dentists may not get it.

What the interviewer asks next

Danthik pays 6x instead of 5x for the next 20 clinics. What does that do to the arbitrage?
How would debt at the platform change the equity return and the risk?
What earn-out structure would you propose for the selling dentists?
At what exit multiple does the plan return 2x on the Rs 120 crore?

Company names and figures are illustrative.