The Wise Choice in Acquisition Financing

Posted on: April 12th, 2021

acquisition financing

Middle market companies sometimes overlook the importance of selecting an acquisition financing lender. Most see this as a cost optimization exercise not all that different from negotiating with different vendors. They will source multiple term sheets and then spread them on an excel to compare all the various costs. For these misguided companies, cost is always the single most important variable when picking a lender, even though there are far more important variables.

Lenders are not just a generic vendor but are a critically important vendor that usually have far greater rights and power. They are usually contractually committed to the company for 3 to 5 years. They have covenants, security rights and information rights that generic vendors do not get. Acquisition financing lenders also require a minimum level of cash flow as part of these covenants to ensure that principal repayments can be made. Each acquisition financing lender has a person dedicated to monitoring the financial health of the company to ensure their loan is safe.

Acquisition Financing for Middle Market Companies

Given the complexity and seriousness of the relationship, middle market companies would be well served to elevate two other considerations above cost when selecting their lender – structural flexibility and lender supportiveness. These two elements are more predictive of the long-term success of your deal than mere cost considerations. Why is this the case? All acquisitions have a digestion phase immediately after the closing that involves myriad operational integration issues – systems are upgraded or merged, new products are launched, new operational processes are initiated.

Acquisition Financing Structures with Structural Flexibility

Often things fall behind schedule and the company begins to underperform budget. A performance gap emerges. Management may realize that they underestimated the level of change management or investment capital needed to catalyze the new growth direction. This becomes a very tense, pressure filled moment for management as they realize they were too rosy with their growth assumptions. Acquisition financing structures that are rich with structural flexibility in the form of no principal payments and relaxed covenants mitigate the risk of this performance gap.

In addition, desirable acquisition financing lenders usually are more forgiving and supportive than low priced lenders. They understand that this is merely a phase and that the fundamentals are sound, despite the performance gap. Lenders that have a history of working with companies through difficult times are worth their weight in gold. So next time you are selecting a lender, prioritize supportive lenders who provide structures with more flexibility.

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.