Tag Archives | mezzanine lender

Mezzanine Financing

See Also:
External Sources of Cash
What Does A Lender Want To Know
Finding The Right Lender
Due Diligence on Lenders
Weighted Average Cost of Capital (WACC)

Mezzanine Financing

A mezzanine lender, provider of mezzanine financing, functions similar to a bank in terms of providing a source of capital for companies. They get their capital from private investors who look to make a profit off of the investments the mezzanine lenders make. Often times, the firm is structured as a limited partnership for tax purposes.

There comes a time in every company’s life cycle when the company and/or the entrepreneur need some more cash. Perhaps the company needs more working capital or some additional money to help fund an expansion. Or, maybe the entrepreneur feels that it’s time to reap the benefit of all those years of hard work. Whichever the case may be, the entrepreneur will be faced with many different financing options. An interesting and often over-looked option is that of bringing in a private equity partner in the form of mezzanine funding.


Download The 25 Ways to Improve Cash Flow


Mezzanine Lenders

Mezzanine lenders are similar to banks … but they are not banks. The interest they charge is going to be higher than what commercial banks charge. Many entrepreneurs blench at the thought. But consider, other than maxing out your credit cards, what other alternatives do you have? Mezzanine lenders will charge you approximately what credit cards charge you. Their cost of capital ranges from the high teens to low twenties (18-23%). This may seem quite high, but if your enterprise is so risky that a bank will not touch it, then it is only fair that you reward someone for taking on this extra risk. Also, what bank would feel comfortable about an entrepreneur taking the bank’s money and pocketing it for personal gain? No bank would. Mezzanine lenders do.

Mezzanine lenders can also benefit the firm in other ways as well. They can help entrepreneurs upgrade their talent resources by finding professional management staff. They can help with finding better technology, placement with new customers or help you find sourcing alternatives. Remember, the best business partner is someone who brings more than just money to the table.

Financing typically comes in the form of either a loan and/or equity interest. Sometimes the debt is convertible into equity. Many people worry when they hear that their equity is compromised. This is actually not so. Mezzanine lenders are open to having their equity interest bought out. Think of it as a “pop” for taking on the risk.

Purpose of Mezzanine Financing / Mezzanine Capital

So, what is the purpose of mezzanine financing or mezzanine capital? First, let us consider a common business dilemma: 1) lack of working capital or 2) lack of funds for capital expansion. Entrepreneurs by nature are optimists and passionate people, especially when it comes to their companies. They want and need a financial partner that can grow with them. Typically, your first option of choice is your friendly, neighborhood commercial bank. There are several issues that one often encounters here:

1. Debt – Is your company too leveraged for the bank to accept?

2. Profitability – Is there enough profit to sustain the enterprise?

3. Cash Flow – Is your company generating enough cash to pay the bills?

4. Inventory – Are you turning it over fast enough?

5. Equity – Do you have enough skin in the game?

If your firm can pass the litmus test, then by all means you should go with your friendly, neighborhood commercial bank. They are typically your cheapest source of money.

Next, let us consider a more interesting question from the entrepreneur’s perspective. I’ve worked this long and hard. Don’t I deserve to be rewarded? Don’t I deserve to be a millionaire? If you don’t already have a million dollars in the bank, then the bank will probably be the first to tell you, “No.” So what’s a hard-working entrepreneur to do? Surprisingly, this issue is one that is faced by countless business owners as they face retirement or just want to “take some chips off the table” for security purposes.

The above cases represent typical situations where it makes sense to consider other financing options such as a Mezzanine Debt Financing.

Recapitalization Example

Below are some typical scenarios where you might want to consider working with a mezzanine lender:

1: Company needs capital infusion for either working capital or CAPEX.

2: Entrepreneur would like to buy out a partner.

3: Entrepreneur would like to “take some chips off the table” to provide security for his/her family.

4: Entrepreneur would like to pass along management to next generation.

5: Entrepreneur would like to share some equity with management staff and/or employees.

6: Entrepreneur would like help with selling the company to a strategic buyer at a good profit so s/he can retire.

Mezzanine Recapitalization: Conclusion

Entrepreneurs should consider mezzanine lenders a strategic financial resource. They many not always be your first choice, but they just might be your best choice. They have a higher cost of capital than banks. But, for the money, they provide a lot of strategic options to the entrepreneur that commercial banks could not be party to.

For more tips on how to improve cash flow, click here to access our 25 Ways to Improve Cash Flow whitepaper.

mezzanine financing
Strategic CFO Lab Member Extra

Access your Strategic Pricing Model Execution Plan in SCFO Lab. The step-by-step plan to set your prices to maximize profits.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

mezzanine financing

Share this:
1

Mezzanine Debt Financing (Mezzanine Loans)

See Also:
Recapitalizing Your Company Using Mezzanine Financing
Angel Investor
Venture Capitalist
Why Venture Capital
What is a Term Sheet

What is Mezzanine Debt Financing (Mezzanine Loans)?

Mezzanine debt financing is a subordinated and unsecured loan which typically features a warrant. This type of debt has higher interest rates because of its subordinated and unsecured status. It is not backed by collateral. In the event of debtor default, the claims of mezzanine lenders are senior only to the claims of common shareholders. Therefore, use mezzanine debt to finance startup companies with growth potential or to complement other forms of debt in a leveraged buyout.

Like other debt instruments, mezzanine debt includes a contract that stipulates the details of the loan. The contract describes the amount of the loan, the rate of interest and the interest payment schedule, the due date for principal repayment, and whether or not there is a conversion feature. The loan may also allow a portion of the interest payments to be accrued over the life of the loan and paid along with the principal at maturity. This feature is payment-in-kind.

Interest rates on mezzanine loans are substantially higher than other types of loans. This is to compensate the lender for the riskiness of making a subordinated and unsecured loan.


Download The 25 Ways to Improve Cash Flow


Mezzanine Lender

Mezzanine lenders are often private equity funds or venture capitalists. Therefore, consider these mezzanine loans speculative investments. The debt instrument provides a stream of income and some downside protection, while the warrant feature offers the potential for upside gains.

Advantages and Disadvantages of Mezzanine Debt Financing

For borrowers, mezzanine debt financing allows companies with less collateral to secure funding for growth. On the other hand, the interest rates on this type of loan are comparatively high. So it is expensive source of capital.

For lenders, mezzanine debt instruments offer higher yields than secured or more senior forms of debt. Also, the warrant feature offers the promise of gains if the borrowing company’s equity increases in value in the future. On the other hand, there is a greater risk of default because the claims are subordinate and unsecured.

Mezzanine Capital

Mezzanine capital refers to subordinated and unsecured debt or preferred equity. It often includes a warrant, or a conversion feature, that allows the lender or investor to convert the debt or preferred stock into a specified quantity of the company’s common stock at a set price within a stated period of time.

Equity Warrants

The equity warrant feature of mezzanine capital allows the lender or investor to convert the loan or preferred stock into a specified quantity of the company’s common stock at a set price within a stated period of time. Design it to give the lender or investor an equity stake in the possible future success of the company.

Mezzanine Meaning

The word “mezzanine” derives from the Italian diminutive form of the word “middle.” Use it to describe the lowest balcony in a theater.

If you want more tips on how to improve cash flow, then click here to access our 25 Ways to Improve Cash Flow whitepaper.

Mezzanine Debt Financing, mezzanine loans
Strategic CFO Lab Member Extra

Access your Strategic Pricing Model Execution Plan in SCFO Lab. The step-by-step plan to set your prices to maximize profits.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

Mezzanine Debt Financing, mezzanine loans

Share this:
0

LEARN THE ART OF THE CFO