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Business Case

Biscuit Manufacturer - Cost centers and debt financing

Worked out Assumptions
Below you find a quite nice business case that I was presented with while interviewing for a Private Credit internship position (got the offer btw). It requires some business reasoning and it mostly focuses on making assumptions and identifying cost centers (COGS and Operating expenses), or at least that's how they presented me the case. From there, I think it's pretty straight forward with the estimation of the debt quantum, interest expenses, net leverage ratio and arriving to the levered free cashflow. At the end, you will have the opportunity to think about the business itself given the few information here, think about the key risks and mitigants, key investment highlights (or as we said in credit, key credit highlights) and why would a sponsor might want to invest / not invest in the business. Let's go!

The Company
You are looking to finance the acquisition of a company in the food processing sector. More specifically, the company buys raw materials and produces cookies for the major food manufacturers in its domestic market. Those major food manufacturers then sell the cookies directly to consumers under their own brands.
  • Raw materials are sourced globally through short-term contracts (3–6 month contracts).
  • Customers are large multinational brands, each representing a relevant share of wallet.
Market Position
The company has a strong position in its local market:
  • It is #2 by market share at c.15%, slightly above #3.
  • The #1 player is the clear market leader with c.40% market share.

Your Task
The company generates €100m in revenue. Working down from revenue, make sensible assumptions to bridge to unlevered free cash flow, and then estimate the amount of debt the company could support. Talk us through your thinking as you go – we are interested in your reasoning and your judgement, not in precise answers. Address each of the following:

  • Topline
    • While this is an input given, please think out loud about key drivers behind revenue. Explain how you would model them in a multi-year forecast.
  • Gross profit
    • Which costs do you think go into COGS?
    • What gross margin range do you think is appropriate for a company in this sector?
  • Opex and EBITDA
    • What sits in opex?
    • Give an estimate of EBITDA and the EBITDA margin.
  • Working capital
    • Discuss the direction of working capital conceptually, including payment terms
    • How would you model WC in a multi-year forecast?
  • Capex
    • Discuss maintenance versus growth capex conceptually and make estimates of % over Sales for both of them
  • Interest and debt sizing
    • Based on Profitability, Cash Flow generation and Valuation of the company, back-solve the debt so that the business maintains a healthy Interest Cover Ratio
    • You will need to also take a view on potential pricing of the facility
    • Hint: currently, private markets are pricing these types of credit facilities at E + 450 – 650bps (depending on credit quality, sector, required leverage from Sponsor quality, etc.)
    • Hint: for interest calculation, you can assume EURIBOR is at 2.5%

Risks & Downside
Finally, list the three main risks for this business, and explain how you would stress the company's financials in a downside case (e.g. a topline decline or margin compression). There is no right or wrong answer here — just tell us where you think the risk sits and how it would flow through the company's financials.

Questions 15

  1. Q01

    Starting with the topline, which do you think are the main driver of revenue growth in this business?

  2. Q02

    Would you expect this company to operate in a growing underlying market or a relatively stable one? Explain your thoughts

  3. Q03

    Which costs do you think sit between Topline and Gross Margin? How much each one of these costs incide on total COGS (in % of Revenue)?

    Hint: Think about the direct costs to operate the business, i.e. they increase with volume of products sold
  4. Q04

    What happens to gross margin if revenue increases by 10%?

    Hint: Think about the cause of the revenue increase
  5. Q05

    Which costs do you think sit between Gross Margin and EBITDA?

  6. Q06

    What do you think this Company spends Marketing expenses on? As a credit investor, would you rather invest in a company with a high marketing spending? Why?

  7. Q07

    At this point we arrive at EBITDA, what are the next steps to get to do a debt sizing exercise? Walk me through all the processes and what you need to compute.

  8. Q08

    On the working capital (WC), which direction do you expect it to take? Why?

    Open-ended — no model answer yet
  9. Q09

    How would you model working capital evolution?

  10. Q10

    How do you think it's the Capex of this company? Make assumptions both on maintenance and growth capex, how you model them in a forecasting period?

  11. Q11

    Assume you have (i) a company who build factories from scratch (greenfield), and (ii) a company who leases the factories. Which adjustments would you consider to compare the EBITDA Like-for-Like between the two companies?

  12. Q12

    Assume the company has no debt outstanding for now, how would you estimate the tax expense?

  13. Q13

    Image you are a private credit fund, what's the maximum debt amount would you be willing to put into the company?

    Open-ended — no model answer yet
  14. Q14

    You have 2 identical debt facilities, held by 2 identical companies but one is owned by Blackstone and the other one owned by CapVest (mid-market PE). Solely based on these information, which one of the two facilities is priced tighter? (lower margin, i.e. lower interest expense for the company)

  15. Q15

    Based on the information you have, list and discuss 3 main risks of the business. Is there anything you would ask the company to try to mitigate these risks?