Growth capital and dilution
Series XIX-A case study · set 3, case 1 of 5 · 4 questions · 1 mark each
Question 1 of 4Case practice
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The case · stays here for all 4 questions
Birch Fund invests ₹10 crore in newly issued ordinary shares of a company valued at ₹40 crore immediately before that investment. All shares have identical economic rights, and there are no options or convertibles. Later, a second investor puts ₹25 crore into new ordinary shares when the company’s pre-money equity value is ₹75 crore. Birch does not invest in that later round. No shares are sold by existing holders in either round, and no distribution occurs. Assume both negotiated pre-money values are accepted for this exercise. The distributor wants to explain the difference between ownership dilution and a change in the marked value of Birch’s holding.
Pre-money values are hypothetical negotiated equity values.
No option-pool change, special right or transaction cost applies.
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The case and its answers
Every question of this case, with its answer and why each other option is wrong.
Birch Fund invests ₹10 crore in newly issued ordinary shares of a company valued at ₹40 crore immediately before that investment. All shares have identical economic rights, and there are no options or convertibles. Later, a second investor puts ₹25 crore into new ordinary shares when the company’s pre-money equity value is ₹75 crore. Birch does not invest in that later round. No shares are sold by existing holders in either round, and no distribution occurs. Assume both negotiated pre-money values are accepted for this exercise. The distributor wants to explain the difference between ownership dilution and a change in the marked value of Birch’s holding.
Pre-money values are hypothetical negotiated equity values.
No option-pool change, special right or transaction cost applies.
Q1What is the post-money equity value after Birch’s first investment?
Option A. ₹10 crore
Why it is wrong: This is only Birch’s contribution.
Option B. ₹50 crore — Correct answer
Option C. ₹30 crore
Why it is wrong: New investment is added, not subtracted.
Option D. ₹40 crore
Why it is wrong: This is the value before the new money enters.
Answer: B. Post-money equity value = ₹40 crore pre-money value + ₹10 crore new investment = ₹50 crore. The company, rather than existing shareholders, receives the cash. Remember: Distinguish pre-money and post-money equity value.
Hint, shown before you answer in practice mode: Post-money value includes the new capital.
XIXA-S3-C01-Q1easynumerical
Q2What percentage does Birch own immediately after the first round?
Option A. 80%
Why it is wrong: This is the existing holders’ combined percentage.
Option B. 25%
Why it is wrong: This divides the investment by pre-money instead of post-money value.
Option C. 10%
Why it is wrong: This treats the ₹10 crore investment as a percentage directly.
Option D. 20% — Correct answer
Answer: D. Birch’s ownership is ₹10 crore ÷ ₹50 crore × 100 = 20%. All shares have the same economic rights in this simplified round. Remember: Ownership from new capital uses the post-money denominator.
Hint, shown before you answer in practice mode: Divide Birch’s investment by the post-money value.
XIXA-S3-C01-Q2mediumnumerical
Q3What percentage does Birch own after the second round?
Option A. 25%
Why it is wrong: This is the second investor’s ownership after its round.
Option B. 5%
Why it is wrong: This is the percentage-point reduction, not the remaining ownership.
Option C. 15% — Correct answer
Option D. 20%
Why it is wrong: This ignores the new shares issued to the second investor.
Answer: C. The second round’s post-money value is ₹75 crore + ₹25 crore = ₹100 crore. Birch retains 20% × 75/100 = 15%, because it does not participate in the new issue. Remember: A new share issue dilutes non-participating holders.
Hint, shown before you answer in practice mode: Existing holders retain 75/100 of their old percentage.
XIXA-S3-C01-Q3hardnumerical
Q4At the second round’s valuation, what is the marked value of Birch’s holding?
Option A. ₹20 crore
Why it is wrong: This uses Birch’s old 20% ownership after dilution.
Option B. ₹5 crore
Why it is wrong: This is the increase over cost, not the full value.
Option C. ₹15 crore — Correct answer
Option D. ₹10 crore
Why it is wrong: This assumes the marked value must remain equal to cost.
Answer: C. The marked holding value is 15% × ₹100 crore = ₹15 crore. Ownership fell from 20% to 15%, but the value increased from its ₹10 crore cost. Dilution alone does not imply a loss. Remember: A lower ownership percentage can accompany a higher holding value.
Hint, shown before you answer in practice mode: Apply the new ownership percentage to the new post-money value.
XIXA-S3-C01-Q4mediumnumerical
A secondary sale includes future funding duties
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