Mezzanine: The Middle Road that’s Less Travelled between Debt and Equity Financing

Posted on: May 25th, 2017

Debt and Equity are at opposite ends of the financial spectrum, and in the middle lies an undiscovered area of unlimited financial possibilities. Mezzanine financing, which has elements of both loans and equity, is one such option that lies between the loan and equity layers on a balance sheet.

The best part is that it is often a better option than a straight loan or equity, when all variables are considered.With mezzanine financing, you can raise an amount comparable to what an investor will give you, at a far lower cost.

You get the repayment flexibility you need, without all the restrictions of a bank loan. Being a unique financing instrument, which doesn’t exactly fall into any specific category, it’s advantage lies in the its flexible structured to suit the bespoke needs of an individual business.

Why mezzanine works for both investors and borrowers?

For borrowers, mezzanine debt costs more than a bank loan, however, it is far more valuable than a simple bank loan. Bank loans are usually for lesser amounts and are quite restrictive. Mezzanine loans are for larger amounts and are more flexible.

Mezzanine principal does not have to be paid until the end of the loan term through a balloon payment. This gives you more cash flow to invest in growing the business.

Also, mezzanine financing is structured off a multiple of a company’s EBITDA. Bank loans are frequently structured off assets.

A loan structured on cash flow will be much larger than a loan structured off assets, for most borrowers. Best of all, there is no personal guaranty on a mezzanine loan, as the lender is compensated for the risk through a higher interest rate.

Mezzanine financing is perfect for a company that needs extra capital to fund their growth gap. Because banks only lend on assets, you are never able to get ahead of your growth curve and invest strategically in your business.

With mezzanine financing, you can do this. Mezzanine debt has several advantages over bringing in an investor.

Most investors want a controlling position which is greater than 50% of the ownership, which is a no-go for most entrepreneurs. Most business owners want to call the shots and not work for someone else.

Mezzanine financing providers receive an interest payment and a small slice of ownership. They have much lower return requirements than equity investors which makes it easier to borrow more money and not be diluted.

An investor will usually want to control the board as well and be active in the running of the business. Mezzanine lenders are generally passive type firms, who will remain relaxed as along as the borrower is making their interest payments and posting decent financial performance.

With most good deals, if things are working out, you will not hear much from your mezzanine lender.

Mezzanine financing- the right road to follow to get the deal done

Blurring the lines between what constitutes as debt and equity, mezzanine finance might be just what you are looking for your acquisition/merger, recapitalization or growth expansion plans.

The extreme flexibility, combined with ability to retain ownership offers companies the exclusiveadvantage that can’t be obtained with either debt or equity.

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.