Mezzanine Financing for Smart Guys

Posted on August 5, 2013

No Dummies here — our clients and friends tend to be very bright people.  Because they also tend to be very busy, we thought it might be helpful to use our most recent closing to provide a brief primer about middle market mezzanine financing.

You can click on the tombstone image to the left to get the full details of the $5 million mezzanine debt placement we arranged for our fast growing, innovative client, Paramount Merchant Funding LLC.

Mezzanine debt is a key component of leveraged private equity financial structures, but it also serves an important role for companies operating in the middle market.  As companies grow rapidly, their capital needs frequently outstrip the capital available to them.

Typically new enterprises are funded with the founders’ personal capital and loans supported by their personal assets or credit.  Often they reach out to friends and family to provide additional support. Additional working capital may be provided by a factor or an asset based lender; however, if growth is rapid, the business will eventually outstrip the limits of these resources and the founder’s personal financial resources will not  support continued growth.

For a step-by-step video how-to guide for obtaining mezzanine financing, click on the image below and view the tutorial.

To download the associated PowerPoint Slides click here.

In the past the needed capital was frequently provided by banks which relied upon the borrower’s character in addition to the liquidateable value of its assets. That is a thing of the past. Today, banks without clear collateral  support to back their loans will soon invite the ire of regulators. With this regulatory threat hovering over them, most bankers have effectively abandoned the small business community in its time of need.

This has created a financing gap increasingly filled by mezzanine lenders. These firms are often structured … read the rest

What Does the Fed’s Prediction of Increasing Growth Mean for Business Owners?

Posted on July 2, 2013

  (Click on Picture to Watch Video)

Last month Chairman Bernanke spoke and the markets reacted by dropping more than 5% in a few days.  Clearly he must have shared some very bad news for business owners.

Actually not!  Coming into the year many observers thought that the federal budget sequester would put the economy at risk of stalling at best and dropping back into recession at worst.  Instead the Fed now foresees annual economic growth at 2-2.5% this year, moving to as much as 3.5% by 2015.  And it’s the private sector that’s carrying the load, not government programs.

Let me say that again.  The Fed now believes that growth is going to accelerate over the next several years.  As a result the economy may not need so much artificial stimulus (QE) going forward.  The economy is no longer digging a hole; we’re back to building a foundation of real economic growth.

What does this mean for the deal business and for private companies considering M&A or corporate finance transactions?  Bottom line: there is going to be much more demand for capital to fund growth.  Unless the banks step up to the plate, which we believe is unlikely, this capital must come from private lenders and equity providers.

The good news is that there is a great deal of financial market capital available to meet this need.  We just closed a mezzanine financing that gave us a good window into the market’s current appetite.  Over the past few years, major investors have made significant financial commitments to entities designed to fill the void left by banks which have abandoned their commercial lending franchise.  As a result today there are numerous private debt providers seeking opportunities to provide senior, hybrid and mezzanine capital to private companies.  Where equity capital is needed, private equity groups are … read the rest

Living in a Low Growth World

Posted on May 16, 2013

Michael Drury, Chief Economist, McVean Trading and Investments LLC – Reprinted with Author’s Permission

Perhaps the question we are asked most frequently is when things will get back to normal, meaning in most investors’ eyes the way they were before Lehman.  Unfortunately, our answer is “That bird has flown” and we are now dealing with, and will continue to deal with for many years, a very different environment.  The mainstay of that difference is a lack of trust between those that have money to invest and those that want to use it for risky undertakings, and, in particular, a lack of trust in the banking system that used to intermediate between these two groups.  The result is a glut of savings available to “safe” investments driving risk-free yields to very low levels.  However, the central banks, by buying bonds and manipulating long term interest rates lower, are introducing a significant risk of capital loss into even “risk-free” assets.  Investors are both moving and driven out the risk and yield curves, and returns on riskier investments are falling.  The decline in returns at the precise time many investors want to start spending investment income has pushed up prices for proven existing income flows.  Meanwhile, a combination of distrust and a reduced pool of money that will wait long periods before income is produced have generated fewer green-field investments in physical plant and equipment, resulting in a slower potential growth path for the economy.

We are neither monetarist nor Keynesian, but rather institutionalist and a storyteller.  We see the current situation as the culmination of a long path where growing reliance on banks and the central bank to maintain economic growth has run aground.  Both re-establishing trust and balance in the old system or building a new one will take time – likely many years … read the rest

Winds of Change: Banking

Posted on May 8, 2013

John Mason – Originally Published at Seeking Alpha – Reprinted with Authors Permission

Another Executive Leaves JPMorgan…” reads the headline of the business section in the New York Times. The question is, what is going on at JPMorgan Chase (JPM)?

The timing of this last leaving is raising questions. The latest major departure is Frank Bisignano, the co-chief operating officer. The questions are about the status of Jamie Dimon, Chairman and Chief Executive Officer of JPMorgan, the “persistent executive turnover,” and the up-coming board meeting where a debate is raging about whether or not Mr. Dimon should hold both top positions.

To me, there are two reasons for the recent departure events. First, Mr. Dimon is in control and he does not like what has happened inside JPMorgan over the past two years or so, with “the London Whale” and other events that have tarnished the “bravo” image of Mr. Dimon and his bank. The activity going on inside the bank remind me of a “turnaround” operation!’

But, there is a second reason for the things that are going on. Mr. Dimon is moving JPMorgan into the future.

If this is true, then this whole effort is to move JPMorgan into the future in the face of the “hostile” regulatory environment that exists, in the face of the changes that information technology are forcing on the banking industry, and the changing nature of the financial industry.

If I were Mr. Dimon, my feeling would be that the current regulatory environment “sucks”!

Being John Mason, my feeing is that the current regulatory environment “sucks”!

In either case, the basic feeling is that I really don’t want to run a bank. I want to run something different.

Second, whatever is being done in the financial industry, the future of commercial banking…of finance … read the rest

Coming M&A Boom Will Not Cure Real Economy’s Ills

Posted on March 3, 2013

Authored by John Mason – Originally Published at Seeking Alpha – Reprinted with Authors Permission

Behind almost all of the economic problems we are now facing is the need for economic restructuring. The world needs to move on and politicians and others are fighting to keep things as they are.

To me, this is one of the reasons why the common liberal/Keynesian solution to our current difficulties is more government spending, more stimulus. The common refrain is to push things right back into where they were. Push people back into construction jobs; push workers back into the auto plants; and push the untrained into information technology. Unfortunately, the world has changed. We cannot keep trying to push people back into the jobs they once held, or, push people into jobs they have not been trained for.

Everyone is excited about the boom in mergers and acquisitions. I have been among those, like James Less, Vice Chairman of JPMorgan Chase & Co. who said, “The Goldilocks era of post-crisis M&A has never been an if, but a when.”

For two years or more, I have been writing that the larger, better off companies, the larger money managers, are just waiting for the right environment to begin the acquisition binge. In terms of high profile the Dell (DELL) deal kind of kicked things off.

In the past two weeks, there have been at least four major deals announced. These have included the Dell buyout; the Comcast (CMCSA)(CMCSK) acquisition of GE’s (GE) stake in NBC Universal; the acquisition of American Airlines (AAMRQ.PK) by US Air (LCC); the Berkshire (BRK.A)(BRK.B)/3G Capital acquisition of H. J. Heinz Co. (HNZ); and the Liberty Global (LBTYA)(LBTYK)(LBTYB) … read the rest

Damn Those Shadow Banks!

Posted on March 3, 2013

Authored by John Mason – Originally Published at Seeking Alpha – Reprinted with Authors Permission

What do we do about the shadow banks or, more politely, alternative finance sources? David Reilly brings us some of the regulatory dilemma in the Wall Street Journal, “Too Big to Fail Casts a Very Long Shadow.”

The question is, “Should the U. S. Government look to backstop even more of the financial system than it already does?” The financial system is expanding. The financial system has already expanded.

Reilly writes that “the shadow-banking system is estimated at between $10 trillion to about $24 million, depending upon the activities included.” According to Federal Reserve System, the commercial banking system holds a little more than $13 trillion in assets.

According to the Federal Deposit Insurance Corporation (FDIC), the total of all assets held by all FDIC insured institutions is a little more than $14 trillion. According to Gary Gorton, Yale economist, in his latest book, “Misunderstanding Financial Crises: Why We Don’t See Them Coming,” the shadow banking system totaled something around $10 trillion to $14 trillion in the summer of 2008, just before the financial crisis started.

In June, 2008, the assets of the commercial banking system totaled just over $11 trillion; assets in all FDIC insured institutions totaled just over $13 trillion. Alternative financial institutions are something to deal with. And, alternative financial institutions are attracting more and more attention.

The issue about shadow banking is one about systemic financial collapse. And, in other words, as Federal Reserve Governor Daniel Tarullo stated before the Senate Banking Committee last week, the regulation of this part of the financial system is the issue “we should be debating in the context of too big to fail.”

Reilly writes, “While banks have faced tighter oversight, the shadow banking market remains a … read the rest

Evolving Financial Institutions

Posted on November 20, 2012

So much of the world is in transition, why do people want the commercial banking industry to be what it was many years ago? This is just not going to happen.

As I have written many, many times, finance is information! We have seen, over the past fifty years or so how the advancements in information technology have contributed, for better or worse, to the innovations that have taken place in financial institutions and financial instruments.

Given the continuing advancements in the information technology field how can we not expect the financial field to continue to evolve? Check out all that is being done in mobile banking these days. At least in my area of the world I am seeing more and more advertisements about mobile banking and what it does for the customer.

And, this is just the ground level. More and more people you talk with and read about claim that they have only gone into a bank office once or twice in the past two or three years. And, the only reason they went into the bank was to complain about not receiving notifications from the bank that their interest rates were being dropped. If this is not enough, read David Wolman’s book, “The End of Money” (Da Capo Press, 2012).

But, who is going to even keep their money in a typical commercial bank? I don’t. I work with an institution that satisfies my banking needs and ties all my financial relationships together so that I can move seamlessly from one asset class to another almost instantaneously.

How about my mortgage? (Yes, I have one!) The commercial bank I know set me up with their affiliated mortgage that immediately sold the mortgage to Wells Fargo (WFC), which now just services the loan because it is owned by Fannie … read the rest

Financial Innovation Aids Small Business Borrowers

Posted on August 15, 2012

The most recent Federal Reserve Senior Loan Officers Survey conducted at 64 large banks confirms what we have suspected. After a long period of tightening, loan standards have stabilized and for larger borrowers they have loosened slightly. The survey provides less hope for smaller borrowers, shown in red on the chart below.

(Click on Image to enlarge)

This confirms data we published previously showing that small business lending has entered into a choppy period in 2012 after seeing moderate improvement from the 2009 lows during 2010 and 2011. Things are only likely to get worse for smaller borrowers as their natural allies, the community banks, struggle with maturing underwater CRE (commercial real estate) loans, continued pressure from their regulators and rapid industry consolidation.

FDIC data shows that bank credit availability is likely deteriorating for many cash starved small businesses. From December 31, 2010 to March 31, 2012, C&I (commercial and industrial) loans at banks over $1 Billion, i.e. those that focus on lending to large multinationals and mid-sized domestic firms, grew approximately 20% from $1 Trillion to $1.2 Trillion. For banks under $1 Billion, i.e. those most focused on small business lending, C&I  loans actually dropped 6% during the period from $110 Billion to $103.5 Billion.

We increasingly see smaller firms struggle to obtain funding if they do not have adequate hard collateral (equipment, inventory or receivables) or if the owners don’t have personal assets to pledge to support the loans. If you are a small business with a capital need to support a growing business, you’re asking “what options do I have?” Recently some innovative non-bank financial services firms have stepped into the breach and are beginning to offer new forms of small business finance based not on specific collateral, balance sheets or income statements, but on a company’s proven ability to generate … read the rest

January Video Newsletter

Posted on January 26, 2012

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Preparing for an Asset-Based Financing

Posted on November 20, 2011

Many businesses have recently faced a new reality when they are abandoned by their traditional commercial banks and are forced to search for non-traditional sources of capital. Commercial banks have tightened their credit standards dramatically over the last several years or have abandoned commercial lending entirely. For many middle market distributors, manufacturers and service firms, asset-based lending (“ABL”) may be the best alternative.   Such firms typically have plentiful working capital assets that have historically not been leveraged to their full potential.

The basic concepts of an asset based financing are simple.  Rather than rely on balance sheet ratios or the earning power of the business, the lender can advance funding based upon the expected net liquidation value of the available collateral, typically inventory and receivables.  In theory asset based lenders (sometimes call “hard money lenders”)  can provide funding to even the most troubled borrowers.  In fact debtor in possessions (“DIP”) loans in Chapter XI bankruptcy have been a stock in trade for a number of such lenders.

The reality of ABL financing turns out to be more complex.  Most ABLs do care about the financial condition of their borrowers and will expect to see historical cash flow performance that supports loan payment plus a comfortable cushion. The resulting financial package will often include a variety of constraints, many of which the borrower may not be aware of until the closing table:

  • Restrictions on advances, dividends, and other related party transactions
  • Restrictions on capital expenditures and leases
  • Strictly constructed personal guarantees (including spousal)
  • Tight financial covenants
  • Requirements to maintain excess liquidity or deposits
  • Reserves for technical collateral protection issues (landlord payments, payroll taxes, lender-perceived weaknesses in working capital collateral, etc.)
  • Prohibitions on disposition of assets
  • Prohibitions from entering alternative financial arrangements and acquisitions
  • Surrender of cash management to the lender

Planning for the Transaction

It … read the rest

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