Building Platform Roll-up Value with Mezzanine Debt

Posted on: November 4th, 2020

Building Platform Roll-up Value with Mezzanine Debt Rapidly acquiring businesses usually run short on capital to finance acquisitions. Having cobbled several small deals together, they reach a size where they need more than can be raised from existing financing sources. Often the growth to date has been funded through SBA loans, which tap out at $5 million. To take the next big step, they need a cash flow-based loan structure that will fund 100% of their capital need.

Most entrepreneurs realize this after multiple rounds of discussion with their bank, who ultimately tell them they cannot provide an acquisition loan. Cash flow financing allows the buyer to take advantage of two important features, EBITDA multiples and cost adjustments.

The loan size is arrived at by combining the adjusted EBITDA of both the acquiring and the to be acquired business and applies a multiple of 3 to 4.5 to it. This means you can addback legitimate expense savings of both business and use a pro forma EBITDA amount. Applying a multiple upsizes the amount of the loan and often creates extra capital for the borrower. This allows you to use your pro forma profitability and the pro forma profitability of your acquisition to determine your loan amount. This approach, commonly used by mezzanine debt lenders, provides all the capital needed to acquire as well as extra capital for growth.

Buyers often shortchange themselves on growth capital, which is critical when building a platform company. Platform companies, due to rapid acquisition growth, often have a few areas where they need to invest to be able to drive faster internal growth.

The ability to drive revenue growth post acquisition is essential to increasing the overall value of the business. Without revenue scaling, the value of the business is dependent on economies of scale and deleveraging. With extra growth capital, higher growth can be unleashed, propelling the Company’s exit value.

Mezzanine Debt for Funding Acquisitions

Mezzanine debt lenders are perfectly suited to simultaneously fund acquisitions and provide funds for platform investments to unlock faster growth. Mezzanine debt lenders intuitively understand the risks involved and are experienced at deciding which platform businesses are best suited for their involvement.

Moreover, many mezzanine debt lenders are interested in funding not only the upfront acquisition and growth need, but also the full lifecycle of capital need. They can give you additional capital to fund subsequent acquisitions and internal investment.

Over the last 30 years, the mezzanine debt industry has acquired a strong reputation for funding the growth of platform companies. Through thinking like equity investors, but tailoring capital to custom loan structures, mezzanine debt lenders are great partners for platform roll-ups.

In the acquisition financing arena, capital availability is destiny as companies require reliable access to capital to grow over the long term. Unforeseen capital needs usually arise when acquirers least expect it. This can cause some concern for the acquisition financing provider, especially when covenants tighten up and that working capital availability is utilized faster than expected.

Mezzanine debt borrowing is usually a straightforward activity that many companies use for funding of transitional growth. Mezzanine debt lenders are highly transparent about their due diligence approach and their post-closing loan management making it easy for companies to engage with.

Elections have consequences and positive ones at that for the acquisition financing middle market. While much media attention is paid to the direction of the yield curve and the Fed’s likely rate cuts, scant attention is paid to the more important drivers of the acquisition financing market – business psychology and regulatory climate.