Working backwards from the exit is how a growth equity investor turns a target multiple into the highest price it can sign, and dilution is the step most often skipped.
Work backwards from the exit: the highest post-money a growth investor can pay is the exit equity value, times the share of its stake it will still hold after later dilution, divided by the target multiple. With an illustrative exit of 900.0, 90 per cent retention and a 3.0x target, the cap is 270.0 post-money, or 6.75x entry ARR. Skip the dilution step and the investor pays 300.0 and earns 2.70x.
Worked in full in The Growth Equity Investor by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
Every growth equity term sheet carries this calculation somewhere, whether it is written down or not. The price is negotiated in pre-money, the return is earned on post-money ownership, and the exit is several rounds and option grants away. Each of those gaps is a place where a 3.0x plan quietly becomes something less.
| Input | Value |
|---|---|
| Cheque | 100.0 |
| ARR at entry | 40.0 |
| ARR at exit, five years later | 150.0 |
| Implied ARR growth a year | 30.3% |
| Exit multiple of ARR | 6.0x |
| Net cash at exit | 0.0 |
| Ownership retained after later rounds and pool refreshes | 90% |
| Target gross multiple | 3.0x |
The exit multiple is deliberately below the entry multiple the answer will produce. A company growing 30 per cent a year today will be growing more slowly when it is sold, and buyers pay for the growth in front of them, not the growth behind.
Maximum post-money = exit equity × ownership retained ÷ target multiple
Pre-money = post-money − cheque
In Excel: =(Exit_ARR*Exit_Multiple+Exit_Net_Cash)*Retention/Target_MOIC
Step by step:
The shortcut gives the same answer in one line: 900.0 × 0.90 ÷ 3.0 = 270.0. As a multiple, the investor can pay 6.75x entry ARR post-money, or 4.25x on the pre-money, and still exit at 6.0x. That 3.0x over five years is an IRR of about 24.6 per cent.
A second bar usually sits beside the base case. In an illustrative bear case where ARR reaches only 80.0 and sells at 4.0x, the enterprise value is 320.0, and 33.33 per cent of it is 106.7: a 1.07x return before any preference. At this price the bear case returns the money even as common stock, so the base-case bar is the one that binds. When it is not, the walk-away price is the lower of the two.
Two refinements change the exit equity line, not the method. Net cash at exit belongs to shareholders: if the plan ends with 50.0 of cash on the balance sheet, exit equity is 950.0 and the cap rises to 285.0. Conversely, debt still outstanding at exit comes off the equity line. A secondary component in the round, which buys existing shares without putting cash into the company, leaves less money to fund the plan, and that should show up in a lower exit ARR rather than in the formula.
| Exit multiple | Exit EV | Target 2.5x | Target 3.0x | Target 3.5x |
|---|---|---|---|---|
| 4.0x | 600.0 | 216.0 (5.40x) | 180.0 (4.50x) | 154.3 (3.86x) |
| 6.0x | 900.0 | 324.0 (8.10x) | 270.0 (6.75x) | 231.4 (5.79x) |
| 8.0x | 1,200.0 | 432.0 (10.80x) | 360.0 (9.00x) | 308.6 (7.71x) |
The price is linear in the exit multiple and inversely proportional to the target, so a two-turn swing in the assumed exit multiple moves the walk-away price by 90.0, a third of it. Growth works the same way: at 120.0 of exit ARR, 24.6 per cent a year, the cap at 3.0x falls to 216.0; at 180.0, 35.1 per cent a year, it rises to 324.0. The negotiation over price is really a negotiation over these two inputs.
| Error | Post-money paid | Actual multiple |
|---|---|---|
| None | 270.0 | 3.00x |
| Dilution ignored | 300.0 | 2.70x |
| Exit assumed at the entry multiple of 6.75x | 303.8 | 2.67x |
| 270.0 agreed as pre-money, not post | 370.0 | 2.19x |
Preferences do not rescue the base case. A 1x non-participating preference protects the downside below the post-money, but in a successful exit it converts and the investor is paid on ownership alone. The price has to work as common stock in the base case; the preference only changes the bear case. See when a non-participating preference converts.
Write the walk-away price as exit equity times retention over the target, and test it against a bear case before the first meeting on terms. In this case it is 270.0 post-money, and every common shortcut lets the investor pay between 30.0 and 100.0 more for the same plan. The free companion files for this book include a return model that gives the walk-away price with a waterfall at three exits. For what defending that ownership later costs, see what a pro rata cheque actually costs.
About 24.6 per cent a year, since 3.0 raised to the power of one fifth is 1.246. A 2.5x outcome over the same five years is 20.1 per cent and 3.5x is 28.5 per cent. Growth equity targets are usually set as a multiple because the holding period is uncertain, and the IRR is then a check on how long the plan allows.
The calculation gives the maximum post-money, because ownership equals the cheque divided by the post-money. In the illustrative case the cap is 270.0 post, which is 170.0 pre. Agreeing 270.0 as the pre-money would make the post-money 370.0, cut ownership to 27.03 per cent and turn a 3.0x plan into 2.19x.
One for one with the ownership retained. If later rounds and option pool refreshes leave the investor with 90 per cent of its entry stake, the maximum post-money is 270.0 instead of 300.0 on a 900.0 exit at 3.0x. At 80 per cent retention it falls to 240.0.
Chapter 9 of The Growth Equity Investor asks for the walk-away price; the companion files solve it for the book's own case. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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