Why Cash Flow-Based Mezzanine Loans are Superior to Asset-Based Bank Loans

Posted on: November 29th, 2017

Cash Flow Concept Hand Growing your middle market company may seem like an uphill battle for you. There are just too many obstacles to think about.

However, your goal to reach the pinnacle of the “mountain” makes the journey quite exhilarating, in spite of the obstacles.

While planning for much-needed infrastructure or expansion funds for your growing company, you may have to decide on the proper loan to fund these capital needs.

One option is a traditional asset-based bank loan. You can pledge your hard-earned and precious assets as collateral along with a personal guarantee to get this type of loan approved.

Yet, the loan proceeds and the term of maturity may be insufficient to advance your investment plans.

Another option is a cash flow-based mezzanine loan, which uses a different approach, and can provide more proceeds and a longer term – all without a personal guarantee.

Cash flow-based mezzanine loans are:

a) More flexible and will give you a larger loan.

Mezzanine loans are completely cash flow based. The lender will only look at your EBITDA (Earnings before Interest, Taxes, Depreciation and Amortization).

If you have very positive cash flow trends, then you should be able to get a mezzanine loan approved. Mezzanine lenders don’t care about the level of assets or collateral on your balance sheet.

They see your company through the prism of cash flow rather than asset value. Mezzanine lenders will look at your projected cash flow and gauge its strength in approving the loan.

Because the loan is based on a multiple of your adjusted EBITDA, you will receive a larger loan which can ease up funds for all your major plans and help you achieve your goals without worrying about a tight budget.

The term of your loan will likely be 5 years and with no requirement for principal repayment throughout the term. When you factor in all these points, you will see that mezzanine loans give you more foundational soundness to fund ambitious growth plans.

a) Better for the borrower especially during tough times.

With more funds, you can enjoy much more freedom investing for the future, with the comfort of knowing you have a lender whose loan repayment is tied to the future cash flow of the business. Mezzanine lenders are reliant on the company producing enough cash flow in the outer years to be able to repay their loan principal.

During tough times, (well, everyone hopes for a smooth ride, but then you never know), you will find that a mezzanine lender will be more supportive than an asset based lender, because they have only one way out of the loan – through the cash flow.

They act patiently and tend to be constructive with the company to help it get back on track.

Mezzanine debt loans occupy the risky echelon beneath the bank but ahead of the equity in a capital structure. They are naturally subordinated to the bank loan via an intercreditor agreement wherein the senior lender retains the power to block their interest or force them to standstill.

In the middle market, acquisition financing providers are regarded as super intelligent and hardworking. They have distinguished themselves at elite banks or consulting firms and possess the ability to synthesize voluminous levels of info into a coherent, succinct takeaway or observation. This skill is extremely valuable in attributing causation to business drivers in a financial model used to foretell the future.

The deal world thrives on the belief that the institution providing acquisition financing will deliver on their promise. Lenders usually telegraph their capital capabilities early on during the sales pitch and give their deal sizes and hold levels for their fund.