The Case for Raising Mezzanine Debt in a Recessionary Environment

Posted on: August 26th, 2022

mezzanine-debt

Mezzanine debt is most actively raised in periods of economic prosperity. This occurs even though buoyant economic times often makes growth more expensive due to the cumulative effect of simultaneous corporate investment. When every company is investing, all cost components of the growth equation -labor, marketing, brick & mortar, systems tend to rise, and a company gets less bang for their growth buck.

When the market buckles, capacity eases and prices decline creating a buying opportunity for corporate growth investors. Recessions create opportunity for investment, especially when corporations retrench, and the labor market sags. While contrarian to the herd, middle market companies who invest into a recession plant the seeds for stronger recovery and growth gains. Mezzanine debt is an ideal form of capital to finance growth investment during a recession as these lenders have a keen appreciation of counter cyclical business growth. Even though the overall market trend may be downward, your company can still have positive fundamentals with growth trends pointing in the right direction.

Mezzanine debt lenders are more attuned to your growth drivers as opposed to the industry in general and will take the time to learn why your business can power through a recession. Recessions create disequilibrium in the market which leads to rare opportunities to grow stronger and consolidate more business. These opportunities can take various forms including a sales team looking for a new home, a competitor seeking a joint venture, or a supplier seeking to merge.

Financial strength and capital wherewithal is the sine qua non to capitalize on these opportunities. Extra liquidity gives you the ability to do things that most other companies cannot do. When others are struggling, mezzanine debt access allows you to not only weather but to thrive from the impact of the recession. Whether it is an acquisition, expansion or innovation, companies can take significant growth steps and build significant value with this approach.

As the Fed decides to ease interest rates, middle market acquisition financing structures will benefit in a number of ways. The underlying values of middle market companies will increase leading to a higher enterprise value and lower loan to value ratios for existing portfolio companies of acquisition financing lenders.

The role of acquisition financing is infrequently elevated above a functional transactional one. When a business needs financing to acquire, they go to the market and source acquisition financing to supplement their equity investment to close the deal. Despite existing in many different forms, acquisition financing is rarely explained in terms of the value it brings to the acquirer.

Acquisition financing underwriting usually focuses on business and financial issues that underpin the stability of cash flow. Providers of acquisition financing usually validate the durability of a company’s competitive advantage and the depth of its resource base. Environmental issues are usually not a major part of the analysis in today’s service and technology-based economy.