Mezzanine lenders are bouncing back

As traditional debt flags, mezzanine lenders are back in the picture funding smaller mid-market deals. Andrew MacLeod reports.

The ill wind that has blown the world’s economy off course appears to have done quite a bit of good for the financial sector’s mezzanine lenders.

Patrick Fear, a director of CapitalSource, reports that – credit crunch notwithstanding – the current climate presents a number of attractive opportunities for those specialist mezzanine funds that have toughed out the lean years and remained committed to the market.

“A lot of liquidity has been lost and that has had the effect of curbing some of the aggressive lending practices of the last couple of years,” says Fear, who observes that deal values have begun falling to “more historical norms”.

“We have been able to get back to more sensible leverage multiples and more traditional structures in terms of senior and mezzanine debt,” he adds. “The last couple of years have been the aberration, not today’s market place.”

Return to normalcy

Fear argues that now normal service is being resumed there are deals in the offing that can only get done with both senior and mezzanine debt. Leverage multiples are lower, and prices more sensible which, he says, equates to proper risk-adjusted returns.

“There is deal activity,” he says. “The market remains strong and is growing overall in tandem with private equity LBOs, however we may see some tempering of those over the next year to 18 months. There are signs pipelines across the private equity community will be softening towards the end of the year.”

Fear adds: “For quality businesses, and particularly for those in the smaller mid-market, there is a relatively short list of people that invest mezzanine in those transactions, so there will be plenty to do in the coming months.

“Deals are still getting done across a range of sizes, and in each and every one of those, mezzanine is a key feature that people are talking about early in the transaction process.”

CapitalSource is active in the deal range between €50 million (£41 million) and €500 million, with its main focus on values up to €250 million, and would look to invest between €10 million and €40 million. The remainder would be taken up either by conventional senior debt or perhaps clubbed by a few like-minded mezzanine houses.

In the shadows

Investec Private Bank’s Edward Cottrell is equally optimistic about the foreseeable future. In the swings-and-roundabouts world of corporate

finance, mezzanine is on the up after several barren years, during which it was overshadowed by senior debt providers with cash to burn.

Pre-crunch, the supply of money from the banks and other institutions was so plentiful that there was little room, or need for mezzanine funding.

“It was famine for us and a feast for them,” says Cottrell. “Senior lenders were lending more and more as multiples of earnings to such an extent that we were being squeezed out of the market.” Now that the situation has been reversed banks like Investec hold at least some of the aces, to the point where they can now demand a small piece of equity in the business in which they invest.

“With senior debt drying up the way it has, our type of finance has come back into vogue,” Cottrell explains. “We are able to lay our hands on cash because our bank didn’t get itself into trouble.

“We didn’t get caught up in the US sub-prime business and avoided the pitfalls of the credit crunch.”

The upshot is that Cottrell’s phone hasn’t stopped ringing. At present it’s a good time for us,” he says. “There are probably fewer deals going around, but those that are, are using mezzanine.”

Our fund management business creates wealth through mezzanine capital investment in small and mid-sized businesses, says barrie hensby of NEL

NEL Fund Managers was established in 1988 as an independent fund management company. It raised its first venture capital fund in 1993, and its first mezzanine fund in 2004.

In that time, Gateshead-based NEL has established itself as the largest provider of venture capital and mezzanine finance in the North East of England.

The mezzanine fund took time to establish itself within the region, but since 2004 it has become understood and accepted as a product by SMEs and the advisory community. The process leading to investment is quicker and less complicated than venture capital and this is appreciated by SMEs.

Clearly the ability to service and repay the debt is fundamental in mezzanine and differentiates it from venture capital.

On occasions, the venture capital fund has been able to co-invest with the mezzanine fund, creating an attractive package of up to £750,000, which is NEL’s market focus.

Demand has been little affected by the credit crunch.

Marc Barber

Raven Connelly

Marc was editor of GrowthBusiness from 2006 to 2010. He specialised in writing about entrepreneurs, private equity and venture capital, mid-market M&A, small caps and high-growth businesses.

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