We're Mezzanine Finance specialists
We help secure Mezzanine Finance for property development projects in need of more cash support.
Our Mezzanine Finance service
- Market-leading Mezzanine Finance up to £250m
- Loan to value ratio of up to 90%
- Experienced developers only
- Borrowers can get loans which have a longer term
- Allows for an exit strategy based on the project’s success
- Residential development
- Residential refurbishments
Our mezzanine finance is a niche type of property finance available to ‘top up’ an existing loan on a development. Many UK developers use mezzanine development finance to fund various stages of their projects.
It's no simple task developing a large residential, commercial or mixed use property. If you're a developer, you'll be all too aware of this. As the project proceeds, the number of stakeholders grows, and the financial planning challenges of property development aren't always straightforward to resolve.
Mezzanine financing is a capital resource that sits between (less risky) senior debt and (higher risk) equity that has both debt and equity features. Companies use mezzanine financing to achieve goals that require capital beyond what senior lenders will extend.
So where you already have a primary lender backing your development, mezzanine finance can be a useful alternative to increase your capital.
The comprehensive guide to Mezzanine Finance
Mezzanine finance is a versatile financial instrument that combines elements of debt and equity financing.
It serves as a hybrid solution that fills the gap between senior debt and pure equity, offering unique characteristics and benefits to both investors and businesses. In this guide, we will explore what mezzanine finance is, its characteristics and features, how it works, who uses it, when it can be used, and the benefits of its use.
Contents
Understanding Mezzanine Finance
Mezzanine finance is a form of financing that combines debt and equity components, providing businesses with additional capital for various purposes such as growth, acquisitions, or refinancing.
It is commonly used in situations where traditional bank loans may be insufficient or unavailable, and equity financing may be too costly or dilutive.
Characteristics and features of Mezzanine Finance
Hybrid Structure: Mezzanine finance typically consists of both debt and equity components. The debt portion is subordinated to senior debt, meaning it has a lower priority of repayment in the event of default.
High-Yield Debt: Mezzanine financing often carries a higher interest rate compared to senior debt, reflecting the increased risk undertaken by investors.
Convertible or Warrants: Mezzanine instruments may include convertible features, allowing investors to convert their debt into equity at a predetermined conversion price. Warrants may also be attached, providing the option to purchase equity at a specified price within a particular timeframe.
Long-Term Tenure: Mezzanine financing typically has a longer repayment tenure compared to traditional debt instruments, providing businesses with a longer time horizon for repayment.
Flexibility: Mezzanine financing is often structured to align with the specific needs of the business, offering flexibility in terms of repayment options, cash flow arrangements, and financial covenants.
How Mezzanine Finance works
Mezzanine finance involves a two-step process. First, the business issues mezzanine securities to investors, who provide the capital needed. These securities represent a combination of debt and equity rights.
The second step involves the repayment of the mezzanine financing, which can occur through periodic interest payments and eventual principal repayment, conversion into equity, or a combination of both.
Users of Mezzanine Finance
Mezzanine finance is commonly utilised by established companies with a proven track record of cash flow and earnings. It is often employed in the following scenarios:
Growth and Expansion: Mezzanine finance can fuel organic growth initiatives, fund acquisitions, or expand into new markets.
Recapitalisations: It can be used to refinance existing debt, providing more favourable terms and flexibility.
Management Buyouts: Mezzanine financing can facilitate management-led buyouts or buy-ins, allowing existing management teams to acquire the company they work for.
Leveraged Buyouts: Mezzanine finance can be used in conjunction with senior debt and equity financing to finance acquisitions or leveraged buyouts.
When to use Mezzanine Finance
Mezzanine finance can be an attractive option in the following situations:
Insufficient Senior Debt: When the amount of traditional bank debt available is insufficient to meet the funding needs.
Avoiding Equity Dilution: Mezzanine finance can be used to limit equity dilution by offering additional capital without giving up a significant ownership stake.
Capital Intensive Projects: Mezzanine financing can fund capital-intensive projects, such as infrastructure or real estate developments, where the upfront costs are high, and cash flows take time to materialise.
Timing and Flexibility: Mezzanine finance is suitable when timing is critical, and the business requires quick access to capital without the lengthy processes associated with equity financing.
Benefits of Mezzanine Finance
Enhanced Capital Structure: Mezzanine financing improves a company's capital structure by providing a mix of debt and equity, reducing the overall cost of capital.
Less Dilution: Mezzanine finance allows businesses to raise capital without giving up a significant portion of ownership, preserving the existing equity for current shareholders.
Flexible Repayment Options: Mezzanine financing offers flexible repayment terms, such as periodic interest payments and principal repayment, providing cash flow relief during the early stages of the investment.
Leverage Potential: By utilising mezzanine finance, businesses can increase their leverage and amplify returns on equity.
Access to Expertise: Mezzanine investors often provide valuable strategic advice and industry expertise to the businesses they invest in, adding value beyond the capital infusion.
Risks and considerations
While mezzanine finance presents several benefits, it is important to consider potential risks and factors, such as:
Higher Cost: Mezzanine financing typically carries a higher interest rate compared to senior debt, increasing the cost of capital for the business.
Increased Risk: Mezzanine investors bear more risk than senior debt holders, as their investments are subordinate in the repayment hierarchy.
Cash Flow Impact: Mezzanine finance requires periodic interest payments, which can impact cash flow, especially for businesses with limited profitability or uncertain cash flow projections.
Dilution and Control: Although less dilutive than equity financing, mezzanine finance may still result in some ownership dilution, and investors may demand certain control rights.
Example of a property development scenario with Mezzanine Financing
Mezzanine financing is a type of investment that provides capital to real estate developers, entrepreneurs, and small business owners by offering a mixture of debt and equity. This type of financing is popular for projects that need a large amount of capital but may not have an appetite for traditional financing sources.
In this example, a local real estate developer wants to purchase an old Victorian home, demolish it and build 20 apartments units for sale. The total cost of the project is estimated to be £2 million. The project is expected to generate net revenues of approximately £1.6 million with a potential return on investment of up to 60%.
The developer applies for traditional financing from a local bank but is unable to obtain the necessary funding due to the project's high risk. As a result, the developer decides to pursue mezzanine financing.
Mezzanine financing is a flexible form of financing that requires both debt and equity. The developer is able to find a reputable mezzanine lender who is willing to fund the project. The lender agrees to provide the developer with £1.5 million in debt with a 5% interest rate and 20% equity in the form of a preferred share. The developer also agrees to a "pay-in-kind" provision that allows the lender to receive a portion of the profits generated from the project in lieu of a cash payment.
The mezzanine lender also offers the developer an additional £500,000 in equity as subordinated debt, which will be converted into common stock once the project is completed and the development is fully occupied. The loan also has a provision that allows the lender to take a £200,000 “promissory note” if the development is not completed within the specified timeframe.
The developer is able to successfully use the mezzanine financing to purchase the property and demolish the existing house. The development then takes 2 years from start to finish to complete the project. In the end, the development is fully occupied and the developer sees a return on investment of over 60%, which is much higher than what they would have seen with traditional financing.
The mezzanine financing allowed the developer to take advantage of the higher returns associated with larger, more complex projects. This type of financing is often the best option for entrepreneurs and small business owners who have the potential to generate high returns but traditionally struggle to obtain the necessary funding. Mezzanine financing provides a viable alternative to traditional financing and can allow projects to proceed when traditional financing options are not feasible.
Conclusion
Mezzanine finance offers a flexible and versatile financing option for businesses seeking capital to support growth, acquisitions, or refinancing. Its hybrid structure, characteristics, and features make it an attractive choice for companies looking to optimise their capital structure while preserving ownership. However, it is essential to carefully evaluate the costs, risks, and benefits associated with mezzanine financing to determine its suitability for specific business needs.
Remember, before making any financial decisions, it is advisable to consult with qualified professionals such as accountants, lawyers, and financial advisors who can provide tailored guidance based on your specific circumstances.
Disclaimer: This guide is intended for informational purposes only and should not be considered as financial or legal advice. Borrowers should consult with qualified professionals and conduct thorough due diligence before pursuing Joint Venture Finance or any other financing options.
We're experienced financial experts who can help you arrange Mezzanine Finance.
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