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Mezzanine Financing | What is Mezzanine Financing? | (Formula & Examples) - YouTube
Channel: WallStreetMojo
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Hello everyone hi welcome to the channel
of Wallstreetmojo friends today we are
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going to learn a fantastic topic that is
on mezzanine financing see at the end
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of the day mezzanine financing is part
of for private equity venture capital
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venture capital is part of private
equity and private equity is part of
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alternative investments let me show you
a trade over here the first thing that
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comes over here is your mezzanine
financing then comes your venture
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capital which is a part of venture
capital venture capital is part of
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private equity and private equity is a
part of you can say your alternative
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investment see nowadays traditional
investments are not showing us that
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greater turns at as what the alternative investments are showing
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alternative investments like hedge funds a venture
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capital private equity commodity
investment real estate real estate
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investments are REITs and that's known
as REITs and so on and so forth this
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project finance and so on in the game so
this are the part of alternative
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investment they show or really great
amount of profit let me show you
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something an article which will give you
some insight over here you can see there
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is a one china-backed buyer who aims to fund 5.2 billion
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dollar 5.2 billion dollar of HK
skyscrapper deal mostly via a debt
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sources so it's written over here the
buyer of the center is looking to raise
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around 40 percent of 5.2 billion in one
year my mezzanine financing by offering
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to pay 8 percent interest for the term showed the remaining up to 50 percent will be
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raised in the form of senior loan said
four people three of whom were the
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bankers who involved in the deal so what
exactly is mezzanine financing see at
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the end of the day if you run a business
and you want to acquire a new smaller
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company you may need to look for
additional sources of funds so ever
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wonder about what you should offer
equity or debt I mean my simple question
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over here to you is that what you should
offer whether you should go for equity
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or debt see this mezzanine financing is
in between of equity and debt you can
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say so at the very first end you may be
you or you can choose mezzanine
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financing which lies in between of
equity in debt and at the same time it
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provides you more benefits then this to
see mezzanine financing definition is
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nothing but a kind of financing that has
both it has both the feature of equity
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as well as the debt now the financing it provides basically
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the lenders the right to convert its
loan to equity in case of default only
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after the private equity company and the
other senior debts have been paid off
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like for example let us take a simple
example in the above the china-backed
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buyer of the hong kong sky skyscraper
from a billionaire Li Ka-shing for a record
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of close enough to 5.2 billion dollar
and is seeking to borrow as much as 90
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percent of to fund the deal around 40
percent of the of this 5.2 billion
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let me just calculate a 5.2 billion
which comes down to a 2.08
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billion in one year mezzanine financing at 8 percent interest rate
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so this was funded at 8 percent interest rate now let's understand it in
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a detail about mezzanine financing in
also the advantage and disadvantage of
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mezzanine financing let's get into the core of it the first thing that we
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are going to learn is about the
structure of mezzanine financing see
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have you ever bought a house I'm in my
one single question to you have you ever
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bought a house see if yes then in that
scenario you would know that most of the
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owners of the house would go for down
payments which is known as DP people
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call it as DP down payment so the down
payment is the money he has saved for
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himself and the rest of the amount is
mortgaged through a bank meaning that
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the remaining amount is taken as loan
and in the case of mezzanine funds it
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works just like this there is one senior
debt okay and there is equity and
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mezzanine says okay I am in between both
of you that is mezzanine financing so
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since mezzanine financing I'll just a
mark I'll just highlight this with a
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color over here and this is your right
so mezzanine financing comes in the
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middle so since Mezzanine funds is not about
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buying a house but buying the companies
as simple as that it is buying companies
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and it happens like following the firm
who has been purchasing the company uses
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its first it uses its own cash okay
and then the remaining portion eat he
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takes and debt from different bank
okay so generally private equity over
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here that is the PE player which is not
PE play in the market they act as a
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mediator here either the they buy them
by the company themselves or the healthy
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management of the company to buy the
target company
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so now mezzanine financing definition
can be of different types
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the first one is usually a portion is
given from own savings by the private
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equity and they take a loan from
multiple investors for funding the
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purchase the second one is the private
equity company uses its own saving and
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then take a debt from a company itself
and the arrange the funding so as a
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result Mezzanine fundings are something
aren't something for everyone would go
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for because the risk over here is very
high the risk is very high and the
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expectation of the benefits is quite
high so let's see few of the
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characteristics and important
characteristics of mezzanine financing
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and then will take some practical
example to illustrate how exactly it
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works so let's understand the traits of
mezzanine financing the first one is
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mezzanine financing is for the company
who have moved beyond the startups so it
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is basically you can say mezzanine
financing are in for startups or since
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in the beginning startups don't have
enough cash flow it is difficult to keep
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take up the highly risk investments so
it is for those who are yet to put their
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foot forward for IPO but still needs to
boost in boost in their growth capital
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so that they can expand the second is
they are quite flexible form of
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financing mezzanine financing are called
the subordinate and debt and it is
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particularly useful for small business
owners who aren't yet ready to pay off
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the huge cost of capital on the equity
financing since mezzanine funds are
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offered with a tailor-made approach in
mind it suits the small business owners
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quite well and and as small amounts are
borrowed from multiple sources like
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private investors mutual funds insurance
company no one runs after the borrower
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immediately and another reason is it is
quite flexible because of you can say it
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is considered as unsecured loan that
means the borrower does not need to
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provide any asset to take the loan the
third characteristics is it is highly
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risky which we have already which I
already told you before mezzanine
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financing funds are pretty risky on one
side it helps these small business
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owners to boost basically to boost their
business we can say but at the another
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side it is out of to be so risky if this
business owners aren't able to
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generate enough revenues or cash flow it
would be impossible for them to pay off
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the debt on the on time because the
interest rate of the mezzanine financing
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is quite high and that's why it is always recommended that mezzanine debt
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should not be more than double always
remember it should not be more than
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double of its of the cash flow of the
company for example if a company has
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been generating around let's say close
enough to $100,000 in cash flow so what
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it should do it should take at least
$200,000 as a mezzanine financing
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all right mezzanine financing and you
can say and it should not be more than
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$500,000 so greater than $200,000 and
less than $500,000 so as a total debt
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including the mezzanine debt the fourth
one the fourth characteristics is
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mezzanine funds are basically unsecured
so basically over here the lenders
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restrict the borrowers in certain cases
see this is not good news for borrowers
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see since in Mezzanine debts are unsecured the lenders should have some hold on the
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loans and that's why they offer incorporate restrictive conditions that
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the borrower needs to other toes for
example you know the lenders may ask for
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the like warrants they ask they may ask
for options of the ownership if the
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borrower defaults to pay of the amount
or the borrower may be asked not to
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borrow an additional loan or else the
few financial ratios the borrower must
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need to meet so this are some of the
characteristics now let's take an
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example on mezzanine financing and learn
about how things work see example number
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one there's this guy called mr. Richard
and he has an ice cream parlor so
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mezzanine funds can be used for buying a
company or expanding one's own business
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without going for an IPO so let's say
that is this guy called mr. Richard and
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he has an ice cream parlor he wants to
expand his business but it doesn't want
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to go for conventional equity financing
today he decides to go for mezzanine
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financing so he goes to resident finances and he asks for mezzanine loans
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the lenders mentioned that they want
they need some sort of warrants or are
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options for mezzanine loans since the
loan are unsecured mr. Richard has to
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agree to the terms set by the mezzanine
lenders so mr. Richard
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loan of close enough to 1 lakh by showing he has a cash flow see he wants
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to take a loan off basically he takes 1 lakh loan and he has to show that he
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has a cash flow offer close enough to
60000 okay every year so he
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takes a loan unfortunately he defaulted
at the time of the payment since his ice
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cream parlor could not generate enough
cash flow till and it takes off a
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portion of his ice cream parlor and
sells off to get back their money I'll
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show you another example of federal
capital and let's see the insight on the
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same let's see another example of
federal capital the Federal Capital
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Partners provide mezzanine financing for
ultimate companies as the construction
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starts near for altars grand central
apartments so as you can see over here
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and in the article it is much written
with the sate all the details see as you
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can see from the above for the federal
capital partners who are the private
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equity firm has provided close enough to
6.5 million okay 6.5
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million in mezzanine fund to the Altman companies for the development of
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Altis grant Altis Grand Central okay
so now let's get into some of the
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advantage and disadvantage lets understand the same see there are some
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advantage of you can say of mezzanine
funding see as you can already see that
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there are many advantages in mezzanine fund here are some of the most significant
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advantage of mezzanine funding the
first one you can get loan very easily
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you can get the loan easily now small
business owners needs fund to expand
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mezzanine fund is easy to get and once
one does not need to provide any asset
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or sort of you can see a mortgage the
second one is the structure of the loan
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is the structure of the loan is quite
flexible which we have already gone
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through the structure mezzanine debt
is quite flexible the borrowers take
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loan from multiple sources and as a
result the amount of each is smaller the
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third advantage of the same is that
interest on mezzanine debt is
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tax-deductible so the you can say the
interest are tax-deductible so that is
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quite offer sort of a benefit this is
the mean advantage of mezzanine fund and
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one of the reason for which these small
business owners go go for mezzanine debt
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is that the interest a pay on the debt
reduces the tax they need to pay on the
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government let's take let's understand some of the
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disadvantage and see what exactly is
there see in case of the disadvantage
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along with the pros mezzanine fund
financing has couple of demerits as
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well the first one is that it has a
restrictive you can say covenants okay
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that basically is one drawback since a
loan are unsecured they lenders in
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corporate restrictive conditions are the
borrowers like warrants options of
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partial ownership not to borrow additional loans from a lenders and so
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on and so forth and the second one is
like they have high interest rate okay
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so since mezzanine loans are unsecured
the borrower's need to pay a quite a
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high interest rate and if you have not
been earning half of what you have
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intend to borrow stay away from taking
mezzanine loans so this has been a
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complete you tutorial mezzanine financing
and we have learned couple of things out
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of this the advantage disadvantage the
examples and how where is exactly it is
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included so I hope you have really got a
great knowledge regarding the same thank
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everyone
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