What are the different capital sources used by a lower middle market company?
The lower middle market accounts for more than an estimated 90 percent of the total number of all middle-market companies in most global economies. In the US, companies with an EBITDA about/below the $10 million bracket are generally considered as the lower middle market sector. Although not always the rule, such companies are generally family owned business, with the senior management ranks often populated with family members. For a middle market company, the current economic environment offers several capital sources that such companies can avail for their working capital needs and growth objectives.
Capital sources that can be assessed by a lower middle market company
Government/Public Sponsored Entities: Government-sponsored entities such as Small Business Investment Companies (SBICs), in the US, or public entities such as Business Development Corporations (BDCs), are a good place to seek capital sources for growth acquisitions, recapitalization, expansion buyouts, etc.
Bank Debt: The most familiar capital source and trusted line of credit, bank debt, is usually available for financially strong companies. Banks generally look for a minimum of a five-year operating history with the most recent years on a profitable level.
Asset Based Lending: Asset-based lending is another capital source that provides a line of credit financing secured by a company’s assets. Typically, the asset lending class is 85% on accounts receivable and 60% on inventory, with some funds also being advanced against capital assets.
Mezzanine Debt: Most popularly used by lower middle market companies as a capital source for acquisitions, (although it is also available for growth capital and other financial needs), mezzanine finance is a combination of debt with equity-like characteristics. Its advantages include a higher amount of funding (generally provided on a 3.5 times EBITDA debt multiple) and little to no dilution, making it an ideal finance option for family owned businesses.
The wide range of alternatives in capital sources give lower middle market companies the choice to explore and choose the best possible capital structure conducive to their financial requirements.