Private equity and venture capital: investor style cases
An investor asks: would I put money in, at what price, and what must be true? This lesson covers returns maths, diligence and the value creation plan. Its worked buyout has a return you can check by hand.
Key takeaways
- An investor case ends with a yes or no and a price. You learn about the business, its market and its risks to answer one question.
- Write the maths of the goal.
- Use what you know about the business.
Key idea
An investor case ends with a yes or no and a price. You learn about the business, its market and its risks to answer one question. Will the money come back with a return high enough for the risk?
What follows describes common patterns, not any one employer's process, unless a source is named. Steps differ by company, country and level and change from year to year. Read the job advert and the employer's own careers page for the exact steps.
Private equity funds buy whole companies, or control of them. They usually pay with a mix of the fund's own money and borrowed money. They own the company for several years, try to make it more valuable, and then sell. A purchase paid for largely with debt is called a leveraged buyout. Venture capital funds buy small stakes in young companies. They expect most of their return to come from a few big winners. Hiring for investor roles often includes a modelling test: a simple buyout model on paper or in a spreadsheet. It often includes a case where you say, in writing or out loud, whether to invest in a company. Expect questions about markets and recent deals too. Venture capital interviews focus more on markets, founders and how you would find deals. This is a general pattern, and firms differ a lot.
The five moves, as an investor
- 1Pin the question. Would we invest, at what price, for how long, and what return does the fund need? Ask what the fund usually targets.
- 2Write the maths of the goal. The return is money back divided by money in. Money back at exit (the sale) is the company's value then, minus the debt still owed. That value is profit x a valuation multiple. So the drivers are profit growth, any change in the multiple, and debt paid down.
- 3Use what you know about the business. Is the market growing? Can rivals copy the business? Is profit steady, or does it rise and fall with the economy? A business with steady profit can safely borrow more.
- 4Find the facts that decide it. This is diligence: checking the facts before you buy. Ask how many customers leave, whether the company can raise prices, how much profit turns into cash, and whether past forecasts were met.
- 5Say so what. Say invest or pass, and the most you would pay. Name the two or three things you would change after buying: this is the value creation plan. Name the risk that would make you say no.
What is different from a consulting case
- Returns maths. Expect to work out two numbers by hand. One is the multiple of money: money back divided by money in, often called MOIC. The other is an approximate yearly return, often called IRR.
- Price matters as much as quality. A great company bought at too high a price is a bad investment.
- Diligence. You have a few weeks and a set of documents. Decide which three facts would change your mind, and check those first.
- The value creation plan. You will own the business, so name what you will change. Examples are prices, costs, management, or buying smaller companies to add to it.
- Venture capital is different again. Most investments return little. A few winners may return as much as the whole fund, or more. So the question is how big this could become, not whether it is safe.
Worked case
A buyout of a testing laboratories company in Spain
The prompt
Fictional and illustrative. A private equity fund can buy a Spanish testing laboratories company at 10 times EBITDA. EBITDA (profit before interest, tax, depreciation and amortisation) is EUR 20 million. The fund would pay with EUR 100 million of debt and the rest from the fund. The plan grows EBITDA to EUR 30 million in five years, with cash from the business paying debt down to EUR 60 million. Assume it sells at the same 10 times multiple. The fund wants at least 2 times its money and about 20 percent a year. Should it invest?
The structure
- Multiple of money = equity value at exit / equity invested at entry
- Entry: price = EBITDA x multiple; equity = price minus debt
- Exit: value = future EBITDA x multiple; equity = value minus remaining debt
- Where the gain comes from: profit growth, multiple change, debt paid down
Working it through
1. Entry price
EBITDA of EUR 20 million at 10 times.
Entry enterprise value (EUR millions):20 × 10 = 2002. Equity invested
Equity is the fund's own money: the price minus the EUR 100 million of debt.
Equity invested (EUR millions):200 - 100 = 1003. Exit value
EBITDA of EUR 30 million at the same 10 times.
Exit enterprise value (EUR millions):30 × 10 = 3004. Equity at exit
The exit value minus the EUR 60 million of debt still owed.
Equity value at exit (EUR millions):300 - 60 = 2405. Multiple of money
Equity at exit divided by equity invested.
Multiple of money (times):240 ÷ 100 = 2.46. Yearly return, checked by hand
Try 19 percent a year: grow 1 by 1.19 five times and see if it lands near 2.4.
1.19 multiplied by itself five times:1.19 × 1.19 × 1.19 × 1.19 × 1.19 = 2.397. Where the gain comes from
Profit growth at the 10 times multiple, plus debt paid down. The multiple did not change.
Equity gain explained (EUR millions):(30 - 20) × 10 + (100 - 60) = 140
The recommendation
Invest, but only if the profit growth is believable. The deal returns 2.4 times the money, about 19 percent a year, which is just under the 20 percent target. Of the EUR 140 million gain, EUR 100 million depends on EBITDA rising from 20 to 30 million. The other EUR 40 million comes from paying down debt. This means diligence must test the growth. Check contract renewals, price rises that customers have accepted before, and whether new labs fill as fast as the plan says. I would not pay more than 10 times today, because if the exit multiple fell from 10 to 9 times, exit equity would drop by EUR 30 million.
Risks: A lower exit multiple cuts the return quickly; Testing demand may fall with industrial activity.
Next steps: Test the EBITDA plan lab by lab; Ask how much of EBITDA turns into cash, which sets how fast the debt falls.
Fictional. A venture fund invests USD 2 million for a stake in a startup. After later funding rounds its stake is 6 percent, and the company is sold for USD 500 million. How many times its money does the fund get back?
Using this in the interview
- Ask: the price, how it is funded, the holding period and the return the fund needs.
- Calculate: equity in (the fund's own money), equity out, the multiple of money and a rough yearly return. Then split the gain into growth, multiple and debt.
- Say: invest or pass, the most you would pay, the facts diligence must confirm, and what you would change after buying.
The industry brief on private equity and venture capital explains fees, fund sizes and how returns are measured. It also explains carried interest, the share of profits that fund managers keep.
Private equity and venture capital briefIn a buyout, the exit multiple stays the same and debt falls. Where can the gain come from?
Why do venture investors ask "how big could this get?" before "is it safe?"
Sources for this lesson (1)
- Recognized public explanations of case-interview concepts and terms
My notes on this lesson
0 of 5,000 characters. Saves automatically.
Try the 3 remaining checks and drills above to complete this lesson (0 of 3 done).
Keep going: lesson 5 of 8
It builds on what you just read, in The same acumen in other roles.
Spotted something wrong or out of date? Report a mistake. We check every report and correct the page.