SVKM’S NMIMS Navi Mumbai

School of Business Management

Private Equity End term assessment

Group 3

Submitted to Prof.Tarun Kehair

Submitted by

Priyanka Aggarwal – 80501180003

Nikhil Gangarde- 80501180016
Shreya Goyal – 80501180018
Neha Yadav - 80501180053
Answers

A.

1 Pre money valuation 1584362.14

2 Post money valuation 6584362.14
3 Ownership (PE fund) 75.94%
4 Ownership(Management) 24.06%
5 Shares allocated to PE firm 3155844.156
6 Share price post financing 1.58436214
7 PE amount on Exit 37968750
8 Management amount on exit 12031250

Note: The workings for the above are shown in the excel sheet attached.
 B.

We can validate the IRR earned by the management and the PE firm. This can be done in the following way

[(Exit Value/Investment)^1/n] -1

Note: The workings for the above are shown in the excel sheet attached.
C. Explain in brief, with examples, the following forms of Private Equity, indicating the stages
within each:

a. Angel

b. Venture Capital

c. Buy-out

How would you classify the transaction above?

Answer:

1. Angel Investing:

 Stage of business:
 ‘Angel’ investors are basically the individuals with high worth who are
capable of providing funds to the businesses (usually start-ups). They are
the first ones to invest in a business. These businesses may be pre revenue
business with no or very few customers.
 The angel Investors invest in exchange for ownership equity or convertible
debt.
 Some business can have cash flow or have revenue.

 Size of Investment:
 The size of the investment usually varies anywhere in between $10,000 to
$1 million
 There is no minimum investment size as such.

 Investment Team:
 Investment team generally comprises of the entrepreneurs who have
founded their own company.
 Their primary skill lies in understanding the role an entrepreneur would
play in the functioning of the business.

 Type of Investment:
 As angel investors are the first ones to invest in the businesses, they can
only invest equity. Moreover, these businesses are not suitable for debt.
 Angel Investors usually use an instrument called “SAFE”, that is, Simple
Agreement for Future Equity, because mostly the businesses are at in their
early stages.
  Level of Risk:
 Risk factory is extremely high due to early stage of the business.
 Risk factor is one of the most important factors in the decision of
choosing the right investment opportunity.
 Additionally, there is a high chance of losing money due to irregular
cash flows.

 Investment Screening:
 Investment screening plays a major role for the Angel investors because
it is highly risky to invest in the businesses which are in their early
stages and involve high risks.
 Therefore, they focus on the qualitative factors comprising information
regarding the founders of the company, the nature of the business and
various factors associated with the nature of the business and lastly the
product/service offered.
 It is extremely crucial for the business to have the right product-market
fit so that there is high chance of the success of the product/service
being accepted in the market.

2. Venture Capital:

 Stage of business:
 Venture capitalists invest in a business wherein sizeable growth can be
associated with the customer base.
 The business not necessarily but should have proved their revenue
model.
 The business should have a clear revenue strategy in place.

 Size of Investment:
 The size of the investment usually varies anywhere between $1 million
to $20 million.
 The investment by venture capitalists also caters to various other factors
which are related to the nature of the company, type of the company and
the stage at which it is operating.

 Type of Investment:
 Investment by venture capitalists in a company is in the form of
common equity, preference shares, and convertible debt securities with
an ultimate goal to eventually own the equity.
 Preferred shares play a crucial role by providing specific rights and
privileges to protect Investors. This can be the case as preference shares
would limit their downfall by protecting them from future dilution in
equity.
  Investment Team:
 Investment Team usually comprises of financial professionals which could
be a mix of entrepreneurs and ex- investment bankers.

 Level of Risk:
 Risk factor is fairly high in this scenario.
 The risk factor of losing money is moderate.

 Investment Screening:
 Investment decisions depend on various crucial factors like revenue rate,
average revenue per user, customer lifetime value, margins, etc.

3. Buy Outs: Buy out takes place when a company is purchased using a large amount of
debt or borrowed cash in order to fund the acquisition. The buyout involves a
combination of equity from the buyer, along with debt that is secured by the target
company’s assets. The structure of the deal is such that the assets and cash flows of the
target company are used to pay for most of the financing cost incurred.

Features:
 It is a high-risk high reward strategy where the acquisition should be able to
provide high returns to pay off the debt.
 Here, the buyer acquires more than 50% in a company which leads to change in
control.
 Firms that specialize in Buy Outs act together or alone on the deals. They are
usually financed by Wealth Individuals, or by institutional Investors.
 In Management Buy Outs, management being purchased takes some stake. They
provide an exit strategy for large corporations who want to sell the part of the
business that do not constitute their core business. Financing for MBO is
substantial and it is usually a combination of debt and equity which is done by
financers and sometimes by the seller.
 Leveraged Buyouts use a huge amount of borrowed money with assets of the
acquired company being used as collaterals for loan. The company doing an LBO
may provide 10% capital and rest provided through debt.
 E.g.: The nation’s largest radio station “Clear Channel” owner was acquired in
2006 by Bain Capital and Thomas H. Lee Partners for $27 billion. This figure
included an $8 million repayment of debt.
4. Classification of the transaction in the case study:
The example in the case is an Angel investment because:

 The business is in the startup stage.

 The amount invested is less.
 Also, as Angel investment takes place at the start of the business, which is the
startup stage, hence the transaction qualifies to be an Angel Investment.
D. Explain in detail, the exit strategies that could be potentially adopted by the PE Firms?
Indicate how these can differ and also how an IPO route could be viewed as a hybrid strategy?

Answer:

Following are the exit strategies that can be adopted by the PE firms:

PRIVATE EQUITY:

1) In order to enhance the performance of an underperforming organization and exit them at

higher valuation, private equity plays a vital role in determining the success of an organization.

2) On an average Private Equity hold companies for a period of five years.

3) The range of exit time can range from less than six months to more than 10 years.

4) Prior to deciding upon which exit strategy to undertake, managers of private equity consider
various factors such as the market dynamics, economic cycles etc.

Most commonly pursued Exit strategies are listed below:

Liquidation – Liquidation as an exit strategy takes place when private Equity firm liquidates the
portfolio of an organization due to failure of a transaction. Mostly the business is closed and the
assets are sold off.

Trade sale – This exit strategy is conducted via private negotiation or auction process. Trade
sale occurs when the organization is sold to a strategic buyer, such as a rival.

The Pros of Trade Sale are as follows:

1. Potential for high valuation because strategic buyers may be willing to pay more, as a
outcome of potential synergies.
2. An immediate cash exit, fast and simple execution.
3. Also, lower level of transaction cost as compared to an IPO, lower level of disclosure and
high level of confidentiality as compared to an IPO.
Cons:

1. A Potential for lower price than in an IPO

2. Possible opposition by management.
3. Lower acceptance by the employees as they might lose their jobs.
Repurchase by promoters: In this strategy, promoters or the management buys back the equity
stake from the investors. This is one other most attractive exit strategy for both investors as well
as the promoters.

Recapitalization – the process when the Private Equity firm increases leverage or introduces it
to the company and pays itself dividend is termed as Recapitalization. Recapitalization cannot be
termed as a pure exit strategy, since the Private Equity generally maintains control, but it does
help private equity investors to realize money from the company and pay its investors.

Secondary Sales – when an organization is sold to another private equity firm it is termed as
Secondary Sales.

Dual Track process: PE firms can file for an IPO and at the same time pursue a trade sale. This
allows them to test the market while searching for a third party purchaser. This can provide
better results but cost of running Dual track process is costly.

IPO:

IPO involves selling the equity stake of a portfolio company, including some or all the shares
held by the private equity firm to public investors. The firm can sell their shares immediately or
sell the shares allotted after the company is listed. Stock Market flotation can be used for very
large companies and due to the cost involved, it is viable.

Below mentioned are the pros and cons of IPO

Pros:

1. Management will approve, since management will not be altered.

2. There is a potential to get the highest price.
3. Ability to benefit from future upside, since private may choose to retain a major share
hold of its equity.
Cons:

1. High transaction cost that are incurred as payments to lawyers and Investment banks.
2. Risk of the equity market volatility.
3. Strict disclosure requirements.
4. Lockup period, which mandates the Private Equity firm to retain a certain portion of
stock holdings in the company for a specified period.
5. It is usually apt for larger organization with attractive growth opportunities.
An IPO may be considered as a hybrid strategy, for the matter of fact that it allows the private
equity firm the option to sell part or whole of the shares holding in the portfolio company there
by rendering an opportunity to the firm to benefit from potential betterment in the stock price of
the portfolio company, if the Private Equity firm decides to retain a large share of its’ equity
holding in the company.

This can be used by the PE firms to test the market by listing the company while also searching
for a third-party purchaser. This can be every successful strategy but cost for running it is high.
 E.

Available Equity Corpus 16908641.98

Amount received by management 2930849.49

Amount received by equity and preference stakeholders 13977792.49

Realised exit multiples of the PE fund 10.72160219

Realised exit multiples of the management 222.5613831

Note: The workings for the above are shown in the excel sheet attached.

In the above example the debt percentage was taken as 80% as given in the question and the exit
multiple was determined accordingly.

To demonstrate the importance of leverage we changed the debt percentage to 50% and the exit
multiple became 4.71 as shown in the calculations in the excel sheet attached.

Therefore, a company relying on debt generates a higher profit thereby boosting its ROE as Roe
comprises of both return on assets and leverage. Clearly in our example a higher leverage
determined a higher exit multiple.