When would you use PIK (Payment-in-Kind) debt?
An advanced Private Equity question — expect it in final rounds and case-heavy interviews (IB, PE, Big-4 Transaction Services).
THE SHORT ANSWER
PIK = interest is accrued and added to principal instead of paid in cash. Used when: (1) company's FCF can't support cash interest but has growth potential, (2) mezz lenders accept PIK as part of higher total return, (3) growth equity / early-stage PE where cash preservation is critical. Risk: debt balance grows over time (compounding), so exit EV must be significantly higher. PIK interest rates: 10-14%.
WHAT INTERVIEWERS LISTEN FOR
- ✓Interest accrues to principal
- ✓Low FCF but growth potential
- ✓Mezzanine for higher return
- ✓Cash preservation critical
- ✓Compounding debt risk
COMMON MISTAKES
- ✗Confusing PIK with deferred interest
- ✗Ignoring compounding debt growth
- ✗Assuming PIK is always cheaper
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