LBO Lab · Level 5: PIK compounding

Time 0:00 / 9:00 targetHints 0Base 1000 pts

Case brief · Level 5 of 8

Ashgrove Water Systems

Water treatment equipment and service

Ashgrove is a fictional water-treatment group, richly valued at 10x. The structure adds a payment-in-kind mezzanine tranche: 1.5x of EBITDA, 2% cash interest plus 10% PIK that compounds into the principal.

PIK keeps cash interest low but the sub balance grows every year, which comes straight out of exit equity.

LTM revenue / EBITDA: $280m / $84.0m (30.0%)
Growth / margin step: 7.0% p.a. / +30 bps p.a.
Capex / D&A, % rev.: 3.0% / 3.5%
Tax rate: 25%
Entry / exit multiple: 10.0x / 10.0x
Senior debt: 3.0x at 8.5%, 1% amort.
Sub / mezzanine: 1.5x at 2.0% cash + 10.0% PIK
Cash sweep: 75%
Senior interest on: opening balance

What exit EV/EBITDA is needed for a 22% sponsor IRR?

Tolerance +/-0.1x

	A	B	C	D	E	F	G
1	Model ($m)
2	Year	Year 0	Year 1	Year 2	Year 3	Year 4	Year 5
3
4	Operating forecast
5	Revenue	280.0	299.6	320.6	343.0	367.0	392.7
6	EBITDA margin (before scenario haircut)	30.0%	30.3%	30.6%	30.9%	31.2%	31.5%
7	EBITDA	84.0	90.8	98.1	106.0	114.5	123.7
8	D&A		10.5	11.2	12.0	12.8	13.7
9	Capex		9.0	9.6	10.3	11.0	11.8
10	Investment in net working capital		2.0	2.1	2.2	2.4	2.6
11
12	Interest, tax and cash flow
13	Senior cash interest		21.4	18.5	14.4	9.6	3.9
14	Sub cash interest		2.5	2.8	3.0	3.4	3.7
15	Sub PIK interest (non-cash)		12.6	13.9	15.2	16.8	18.4
16	Pre-tax profit		43.8	51.7	61.2	72.0	84.0
17	Cash tax		10.9	12.9	15.3	18.0	21.0
18	Free cash flow after interest and tax		45.0	52.2	60.7	70.2	80.8
19	Mandatory senior amortisation		2.5	2.5	2.5	2.5	2.5
20	Cash available for sweep (after minimum cash)		42.4	60.3	73.2	86.0	99.8
21	Cash sweep to senior		31.8	45.2	54.9	64.5	43.0
22
23	Senior debt
24	Opening balance		252.0	217.7	169.9	112.5	45.5
25	less: mandatory amortisation		(2.5)	(2.5)	(2.5)	(2.5)	(2.5)
26	less: cash sweep		(31.8)	(45.2)	(54.9)	(64.5)	(43.0)
27	Closing balance	252.0	217.7	169.9	112.5	45.5	0.0
28
29	Sub / mezzanine debt (bullet)
30	Opening balance		126.0	138.6	152.5	167.7	184.5
31	plus: PIK interest accrued		12.6	13.9	15.2	16.8	18.4
32	Closing balance	126.0	138.6	152.5	167.7	184.5	202.9
33
34	Cash
35	Opening cash		10.0	20.6	25.1	28.3	31.5
36	Free cash flow less repayments		10.6	4.5	3.2	3.2	35.3
37	Closing cash	10.0	20.6	25.1	28.3	31.5	66.8
38
39	Credit statistics and covenants
40	Net debt (senior + sub - cash)	368.0	335.6	297.3	251.9	198.5	136.2
41	Net debt / EBITDA	4.38x	3.70x	3.03x	2.38x	1.73x	1.10x
42	EBITDA / cash interest		3.79x	4.61x	6.06x	8.86x	16.36x
43	Leverage covenant		OK	OK	OK	OK	OK
44	Interest cover covenant		OK	OK	OK	OK	OK
45
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