Mezzanine loans are becoming an increasingly popular form of financing for commercial real estate investors and businesses. In the years following the financial crisis, banks have become more conservative in their lending, and that has encouraged investors and company owners to consider alternatives. A mezzanine loan is like a bridge loan or a second mortgage that is taken in addition to the main source of financing. It is a combination of debt and equity, and allows the lender to be paid in stock if the debt is not paid.
Banks may approve a loan to a business or an investor, but the primary loan may require a large amount of capital from the borrower to complete the desired transaction. The borrower might have the capital available, but may one to deploy it in other ways by making additional investments or growing the business. A mezzanine lender can provide a loan that will allow the borrower to use less of his or her own capital. For instance, the main lender will grant a loan that covers 70% of the purchase, and the borrower has to come up with 30% from capital or take a mezzanine loan to cover part of it. Businesses use mezzanine loans to preserve capital for upcoming investment opportunities.
Mezzanine loans tend to be short-term and carry high interest rates. They involve substantial risk for both the borrower and the lender but can expand growth opportunities. As a result, many business owners pay off the loan quickly if the project is successful. The terms of repayment can be flexible and negotiated between the borrower and the lender, but if the loan fails, the mezzanine lender can grab the company’s stock. This effectively gives the lender a large amount of control in the company. On the bright side for the borrower, this can also encourage the mezzanine lender to help keep the company afloat, since the lender owns equity.
A mezzanine lender is like an investor, since the lender has the potential of owning part of the business. The loan may mean that the lender can impose certain restrictions on the running of the business that the owners may find burdensome. On the other hand, many companies have been assisted in their development through mezzanine lenders that provide useful advice. In a positive scenario, the mezzanine lender can be a kind of partner and mezzanine loans can help seal a relationship that may be mutually beneficial for the borrower and the lender.