Mezzanine financing (“Mezz”) is a touch known strategy readily available for independently held companies and openly traded firms that enables a powerful performing company to improve its financial leverage in a few transactions. In most cases, mezz financing provides the options that come with both debt (regular interest and principal payments) and equity (options or warrants). Mezz debt will rank behind senior debt but in front of equity holders when it comes to security.
Mezzanine financing can be obtained for businesses with strong cash flows. Although there are several limited exceptions in Canada, nearly all mezzanine lenders require historic cash flows to become at least of $2M when searching at historic performance more than a three year term.
Companies should think about using mezz financing when traditional senior debt continues to be maximized but you can find more leverage possibilities available because of strong cash flows just before raising dilutive equity. Mezz financing is usually employed for acquisitions (including leveraged buyouts), expansion, recapitalizations, and management buyouts and it is prevalent both in operating company situations in addition to certain property development scenarios.
While Mezzanine financing could be structured in a variety of various ways, the most popular aspects of mezzanine financing are listed below:
1. Cash interest – Regular interest compensated on the periodic basis much like having to pay term debt
2. PIK (Payment in Kind) Interest – A mentioned quantity of periodic interest that’s really put into the main quantity of financing that is usually compensated back like a bullet payment in the finish from the term.
3. Possession – The loan provider will get a choice or warrant to transform to equity. Generally, privately company situations, the equity is repurchased through the owner(s) with time.
Because the target total annualized return for mezzanine lenders varies from 18-21%, it ought to be noted that mezzanine lenders usually use the main bank in structuring their deals to make sure that the money interest portion billed around the financing isn’t prohibitive towards the business, thus allowing greater versatility within the overall capital structure. It ought to be noticed that you’ll be able to achieve an 85%-90% loan to cost ratio with mezzanine financing. Additionally, mezzanine financing is generally treated as equity by senior lenders for purpose of financial covenants.
In the current lending atmosphere, it’s quite common to determine senior term debt issued at 3.5 occasions EBITDA (Earnings Before Interest Tax Depreciation and Amortization) with mezzanine debt adding another 1 occasions EBITDA for total financing of four.5 turns of EBITDA. For example, it’s conceivable that the strong income company with $2M of money flow (EBITDA) could borrow $7M of senior debt and the other $2M of mezzanine debt for $9M of total financing. Because of the strong emphasis put on income, lenders are extremely meticulous within their research process.
Within the U . s . States, you will find countless lenders directly involved mezzanine financing. In Canada, the amount of credible lenders is a lot smaller sized. The organizations involved with mezzanine financing include eco-friendly, insurance providers, mutual funds, pension funds, certain government crown corporations, and chartered banks.