Financing Strategies in M&A: Seller Notes, Asset-Backed, Mezzanine, Joint Ventures, Private Equity, Recent Trends

This CLE course will discuss various methods of financing acquisitions when traditional bank lending is unavailable or insufficient to consummate the M&A transaction. The panel will examine the legal and structuring issues associated with alternative financing, including seller financing, convertible subordinated debt, mezzanine debt, asset-backed financing, joint ventures, and the relationship of these financing methods to each other in the capital structure.

A variety of financing options are potentially available to purchasers who cannot fully fund an acquisition with cash on hand or a traditional bank loan. But these arrangements—particularly in combination—add complexity and delays to a transaction. Deal counsel must have a thorough understanding of each option's legal and economic ramifications for the company post-acquisition.

Perhaps the simplest way to make up a shortfall in financing the purchase price is for the seller to take back a note for a portion of the purchase price. A seller note may have advantages over third-party financing with respect to costs and delays given the seller's familiarity with the target company. The seller should have a clear understanding of the purchaser's creditworthiness and the seller note's priority with respect to other creditors (i.e., who gets paid first). Factors, such as if the target will need an operating line of credit post-acquisition, should be considered.

An asset-backed loan (ABL) may be available if the target has strong, diverse, and recurring accounts receivable and inventory. These are the assets that support this type of financing. ABLs or even receivable purchase agreements (RPAs) can be attractive where the borrower is rapidly growing and needs to increase cash flow. ABLs and RPAs usually come along with a host of other restrictions and covenants on the target's business and operations. The purchaser may not be prepared or even able to implement these to meet a shortfall in funds at the acquisition time.

Subordinated convertible debt financing from the purchaser's affiliates or even third parties can also be used in a shortfall situation. This type of debt is typically unsecured and subordinate (having a lower priority) to senior debt and therefore carries a higher interest rate commensurate with the higher risk. Similar to subordinated debt, mezzanine or second lien debt offered by third parties, which may or may not have a convertible feature, may be a viable option.

The relationship between creditors, owners, sellers, and purchasers typically doesn't end upon the transaction's consummation but continues post-acquisition, supporting or even restricting the target's future growth. Deal parties must understand the implications of using alternative funding strategies at the onset of a transaction to navigate the target's future growth prospects safely.

Listen as our authoritative panel discusses the different and alternative structures to consider in financing an M&A transaction. The panel will also discuss private equity as lenders and the pros and cons of entering into a joint venture rather than acquiring the target.