Cash Flow Lending Is Back And Is Key To Getting Your Deal Financed
Anatomy Of A Typical Post-Crash Finance Structure:
Real Estate Debt: Likely Under Water
Equipment Debt: Same As Real Estate
Revolving Debt: Inadequate Availability, Forget Inventory Advance
Existing Senior Lender: Has Its Own Problems
Need For New Capital: High, Many Growth Opportunities
What To Do?: Maximize Senior, Complete With Mezz
What Happens When Senior Debt Only Gets You Part Way There?
The normal manufacturer, distributor or other operating company looking for new financing can be in for some rude news these days. And this all comes after weathering the recession, and cutting expenses to stay afloat during exceptionally lean times. Things are improving, and now there are some good opportunities, but it still takes working capital to take advantage of them. Where can an operating company come up with the needed availability?
Well, it’s a different world these days as far as financing is concerned. Prior to the crash, an operating company could get adequate availability solely from its various asset classes. It was something like an arithmetic exercise. When you lumped the aggregate value of accounts receivable and inventory with real estate and equipment, and applied the customary advance rates to each asset class, there was plenty of money to go around. No more.
These days, the company’s fixed assets might well be under water with the existing senior lender. Real estate values have plunged, meaning the debt on the property could exceed its fair market value. Same thing with equipment. Likely under water.
All of the companies in the same industry that did not survive this latest economic meltdown have been liquidated or soon will be, dumping their equipment on the market. This drives the collateral value of comparable equipment lower and lower, and it’s not getting any better. Bottom line, decreased availability from machinery and equipment.
What about the revolver? Things are tight there, too. Most lenders have completely jerked any availability from inventory, and accounts receivable financing has gotten to be tough, along with the rest of the senior stuff.
Enter The Stretch Piece—Why Mezz Is The Key
The current senior debt market being what it is, the answer to getting the complete working capital package you need is the mezz market. Refinancing existing senior debt, or getting incremental working capital or money for acquisitions has morphed into the following exercise: Wring as much availability out of the senior assets, then make up the balance with a cash flow stretch piece.
This approach has two main advantages. First, you get the total amount of working capital you need, which is not normally possible by only using a senior ABL approach. Second, the overall pricing for the whole deal is not too bad, because you have cheaper rates for the portion secured by senior assets. The stretch piece costs money, true, but it is, after all, a stretch piece. Blend them together, and it works.
All this assumes you have adequate cash flow, which is what supports the mezz or stretch piece. Without durable cash flow, you can’t get there from here. The good news is there is a ton of cash today chasing good operators who can demonstrate they can make money. Sure, it will cost more than senior debt only, but incremental senior is not available anyway, right? Plus, a substantial portion of the mezz lending universe will refi the senior debt as part of the mezz package. It can make sense for the mezz lender to have everything.
Look at the virtues of mezz debt. It supplies the working capital needed to take advantage of the new opportunities out there. Industry competition has been weakened, which means the survivors can grab additional market share, assuming they have the working capital to do it. With the expense pruning done during the last couple of years, expansion opportunities will likely pay off nicely, and hit the bottom line more than before.
Call Us About Your Deal
If you are an operating company that needs additional working capital, but have been frustrated by trying to use only the pre-crash ABL financing model without success, give us a call to discuss. We have been finding lots of these mezz piece facilities for clients in various industries.
We would be happy to discuss your deal confidentially and share our thoughts with you about the which of the many new programs currently available could work for you. Lots of them operate on the mezz plus senior model, and there is a new set of faces doing this. This is not the same pre-crash senior ABL lineup.
If you are a mezz lender looking for quality deals, likewise, please call to update us on your preferences and talk about the deals in our large mezz pipeline.