Mezzanine and Structured Finance

Seminar on Emerging Areas in Corporate Finance

By
Institute of Chartered Accountants of India
December 1, 2012

Content
Mezzanine Finance

What is Mezzanine Finance

What does Mezzanine lenders look for?

Comparison between Debt, Mezz and Private Equity

Structured Finance

What is Structured Finance

Structure

A real life case study

Mezzanine Finance-Definition

Mezzanine financing is defined as a financial instrument which is a mix of debt &

equity finance.
It is a debt capital that gives the lender the rights to convert to an ownership or
equity interest in the company.
In the hierarchy of creditors, mezzanine finance is subordinate to senior debt but
ranks higher than equity.
The return on mezzanine finance is higher in relation to debt finance but lower
than equity finance.

Mezzanine Finance-return expectations

EQUITY

MEZZANINE

Risk

Total return
>25%
Total return 1825%

Return

SENIOR DEBT

Total return 1216%

Structure and Cost

Structure and Cost

Target return : 18-25%

Coupon : 11-13%
Term :2-5 years
Array of hybrid instruments
Right for equity participation
Put option
Junior security rights
Board observation rights

What does Mezzanine lenders look for?

Discernible inflection
points

Invest along with

management with skin in
the game

Congruity, integrity,
discipline

Bet on the jockey not on

the horse

Avoid companies with

large senior debt burden

Use active Board

observation rights

Proprietary, competitive
advantages

Put rights

Require accounting depth

and system resources

Management and Markets

Value proposition

Measurable milestones

Alignment of interest

In what circumstances Mezzanine Finance is used

When the owner has

insufficient
funds/equity

When the owner

wishes to share risk
with a financing
partner

Some of the applications of Mezzanine finance

Management Buyouts
Ownership successions
Growth capital
Good Company-bad Balance Sheet
Consolidations
Recapitalisations
Private Transactions

When the use of

mezzanine will enhance
the return on invested
equity

Comparison between Debt, Mezz and Private Equity

Debt

Mezzanine

Private Equity

Typical structures Term Loan, WC

Debt with warrants,

convertibles

Warrants and
Equity shares

Investment
horizon

Short to Medium
term

Medium to Long
term

Long term

Risk Tolerance

Low

Medium

High

Return
expectation

11-15%

18-25%

>25%

Customisation

Relatively rigid

Flexible

Flexible

Seniority/security Senior

Junior

Unsecured

Equity dilution

Low

High

None

Content
Mezzanine Finance

What is Mezzanine Finance

What does Mezzanine lenders look for?

Comparison between Debt, Mezz and Private Equity

Structured Finance

What is Structured Finance

Structure

A real life case study

What is Structured Finance

Definition

United Nations Conference on Trade and Development (UNCTAD) Definition:

A technique whereby certain assets with more or less predictable cash flows can
be isolated from the originator and used to mitigate risks (e. g. transfer of foreign
exchange, contract performance and sovereign risk), and thus secure a credit.

Liquidity and risk transfer is typically achieved in structured finance through

securitization of various financial assets (e.g. mortgages, credit card receivables,
auto loans, etc.) which has helped to open up new sources of financing to
consumers and businesses.

Essential parts of Structured Finance

Arrangements which ensure that if a transaction proceeds normally, the financier

is automatically reimbursed. The loan is therefore self-liquidated.

Arrangements further ensure that, if anything goes wrong, the financier has
recourse to some assets as collateral.

Structure

Securitization

Tranching

Tranching is a system used to create different investment classes for the

securities to allow the cash flow from the underlying asset to be diverted to
the various investor groups.

Credit enhancement

Method utilized by participants of structured finance to create the pools of

assets that are used in the creation of the end product financial instruments.

Creating a security that has a higher rating than the issuing company

Credit Rating

Getting a rating of the instrument, so that large pool of investors such as

Governments, pension funds, mutual funds can buy the instrument

Case study
To be discussed in the Seminar

Case study key terms

To be discussed in the Seminar

Thank You

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