Spinta Cookbook: Key Ingredients to Structuring Growth Debt

In this edition of Spinta Bytes, we identify and define structures, lenders types, and key terms borrowers must evaluate when navigating the expansive debt marketplace for emerging growth companies. Management teams should approach the process with an initial vision of the type and size of loan sought, collateral availability, pricing expectations versus flexibility, and an understanding of how modifying some of these variables can impact loan costs, loan sizing and even growth rate of the company. In other words, what is the ‘ask’ and why?


In future posts, we will explore further market-clearing terms and provide illustrative cost of capital comparison analyses (i.e. cost to equity holders of various financing strategies). We welcome all feedback, including any topics or ideas you would like us to explore.

***In fact, anyone who suggests a specific topic that is selected for print gets a gift card on us, to the coffeehouse of his or her choice.***

 

Loan Type:

  • Revolver – line of credit that is senior at company or specific assets; availability is limited to the lesser of total facility size and a borrowing base, often set at ~80% of eligible receivables and ~50% of eligible inventory; pricing includes monthly floating coupons (generally at a spread to LIBOR) and warrant coverage. Nearly all companies at $5m+ revenue run rate should have one.

  • Capital Leases – term loan; senior at assets the lease is supporting; pricing is a fixed monthly amount and typically includes warrant coverage; over the near-term, leases can be a more cash-efficient method of financing equipment vs. an equipment-based term loan

  • Recurring Revenue Lines – line of credit (in some cases a series of term loans); senior at company; availability limited to the lesser of total facility size and a borrowing base set at a multiple of recurring revenue (customer retention rates/churn, acquisition costs, and lifetime values largely determine advance rate); mostly fixed rate coupons plus warrant coverage

  • Senior Secured Term Loan – first lien (varies from all assets to specific assets, such as equipment or IP); underwriting largely based on specific asset value and/or the enterprise value (EV) of the business; cost (mostly fixed coupons and warrant coverage) and amortization vary widely

  • Royalty-Based Term Loans – senior at company; repayment based on a fixed % of future revenue streams; can increase in size with multiple tranches to support growth; use of this structure historically limited to energy and biotech sectors, however several lenders are now utilizing this structure in more ‘traditional’ tech sectors; sometimes include warrants

  • Second Lien Term Loan – second lien on all assets based on EV; cost (fixed coupons and warrant coverage) and amortization (if any) vary widely

  • Mezzanine – subordinated, unsecured term loan; typically no amortization; all-in cost (fixed coupons and warrants) ranges from mid teens to mid 20%

 

Lender Types: legal structure often impacts loan type, cost of capital, and structure

  • Banks – highly regulated; lowest cost of capital; most active with collateral-based solutions and select lenders also very active with senior secured term debt; tend to size and structure loans conservatively

  • BDCs – business development companies are active in all types of term debt (senior, second lien, and mezzanine); generally dedicated to certain company types (venture stage / pre-profit, middle market / mature, etc.); more flexible and higher cost than banks, i.e. like a fund but with permanent capital base that can be recycled

  • Private Funds – typically term debt (all types) providers; select private funds also specializing in flexible lines of credit; widely varying risk tolerances; traditional GP / LP structure, where GP has finite amount of time to deploy committed capital; important to understand where fund sits with current deployable capital / fundraising

  • Hedge Funds – most opportunistic; usually term debt; often ‘chase’ yield in low interest rate environments; imperative to understand long-term commitment to the market

 

Economics:

  • Up-Front Fee – cash fee paid at closing; % based on total facility size

  • Coupon – monthly cash interest payments (can be fixed or floating)

  • Back-End Fee – some term debt structures include a back-end fee based on size of loan; certain lenders will use back-end fees (or a multiple of principal) as a primary means of achieving their returns

  • Warrant Coverage – equity participation based on the facility / loan size relative to an issuer’s equity valuation (does not represent dilution or % of company); strike price most commonly set at valuation of most recent equity round, though certain subordinated lenders require ‘penny’ warrants

  • Prepayment Fee – call protection, generally calculated as a % of amount repaid prior to maturity or required amortization

  • Royalty Fee – in royalty-based term loans, issuers pay a percentage of revenue, either over a certain time period or until a negotiated multiple of the investment is paid back

 

Structural / Other Key Considerations:

  • Draw period / delayed draw – typically 6-18 month period which allows borrower to draw against a term loan facility as cash is needed; this can reduce the effective cost of the loan as sources / uses are more efficiently matched

  • Amortization – repayment schedules vary widely; term debt can amortize in equal monthly amounts starting as soon as month 1, while some structures are bullets (100% due at maturity)

  • Collateral – the type and scope of liens is highly dependent on the overall type of loan; a narrowly scoped collateral base will offer borrowers more flexibility with respect to additional financing in the future

  • Tranching – mechanism whereby additional capital is available subject to certain milestone achievement (can still be subject to lender committee approval)

  • Financial Covenants - performance thresholds placed into a loan agreement by the lender; violations trigger default

  • Board Rights – most lenders do not require a board seat though some will want observation rights (non-voting participation); certain mezzanine lenders will require board seats at companies with no institutional equity backing

  • Reporting Requirements – monthly financials standard; collateral monitoring rights

  • Account Control – most commonly utilized by banks, provides lender with control over a borrower’s deposit accounts with certain triggering events

     

     

     

     

     

     

     

     

     

 

 

 

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