Mezzanine Finance is a layer of debt between senior debt and equity.
Companies that use mezzanine finance can access more capital and achieve higher returns on equity.
Mezzanine Debt is form of risk capital that is junior to senior debt and in priority to equity. It is attractive to equity owners because mezzanine debt can be recalled and cancelled by the company through repayment. Mezzanine Debt is used for adolescent and mature companies, as opposed to Venture Capital which is used for Research & Development and Early Stage companies.
Everybody wins with Mezzanine Debt. The company increases leverage and attracts capital; the senior secured lender sees an injection of new opportunity equity and lower leverage; the mezzanine debt provider is able to put its money to work at an attractive rate; and the shareholders avoid unnecessary dilution and cost from new equity.
Equity is the most expensive form of capital. It is typically held in the form of common or preferred stock. Equity is also normally subject to a shareholder agreement which will provide for any voting rights that the equity holders may have. From an accounting perspective equity is the positive or negative remainder of assets after deducting liabilities. An investor holds equity in anticipation of income from dividends and capital gains. Equity is the most common form of risk capital.
Senior Debt is the highest ranking liability on a company’s balance sheet that takes priority over other secured, unsecured or otherwise more junior debt. This concept is often best illustrated by the divestiture process. In the case of a business sale, a secured creditor is paid in first priority from any asset proceeds. Afterwards, other junior creditors, ranked in priority of security or interest, will receive any residual asset proceeds. Once all debt and creditors are paid, any balance and goodwill value can be paid out to equity holders in priority.
Subordinated Debt (junior debt, second lien debt) is lower in priority of payment and security than senior debt. Because of this it carries a higher risk to the lender and is often issued at a premium cost to senior debt.
- What is Mezzanine Finance? Read our White Paper
- CVCA’s Private Capital Magazine: Mezzanine Finance – Moving Up the Mezzanine Level
- Divestopedia.com: Basics of Mezzanine Financing
- 10 Badly Explained Topics In Most Corporate Finance Books
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