John Mosley

PARTNER

T: +61 2 9921 4428

M: +61 412 104 948

E: john.mosley@minterellison.com

FINSights: Emerging trends in acquisition finance

Summer 2016

Caitlin Chiu

SPECIAL

COUNSEL

T: +61 3 8608 2832

M: +61 417 322 423

E: caitlin.chiu@minterellison.com

KEY FEATURES

• Ability to meet vendor headline price expectations when senior and

mezzanine lenders have otherwise been 'tapped out'.

• More debt, less equity enhances the internal rate of return on a successful

exit (the converse is also true).

• Vendors will generally accept their debt being subordinate to senior and

mezzanine debt.

• Vendors may accept long dated maturities with little or no interest.

CONSIDERATIONS

If a vendor will not accept a deeply subordinated unsecured position,

resulting complexities may include:

• Restrictions by the senior and mezzanine lenders on when periodic

payments such as cash pay interest may be made to the vendor.

• If the vendor wants security, it will either need to be above where the senior

and mezzanine lenders are secured or contractually subordinated and

second ranking to the senior and mezzanine lenders.

• Issues to be resolved in any subordination and priority arrangements

include when (or whether) the vendor can enforce, such as when the senior

and mezzanine lenders have not been repaid within 6 months after their

maturity and have not accelerated the senior debt and/or mezzanine debt.

• The vendor may require protection around the conduct of any senior or

mezzanine enforcement, such as extending any duty under law to obtain

the best price reasonably obtainable on enforcement to the vendor.

In summary, there are several advantages to vendor finance but these can

sometimes be outweighed by disadvantages, depending on the structure of

the transaction.

In the present Australian market, senior lenders will usually advance up to 4x earnings but to

win a bid sponsors may need to leverage up to 6x earnings or more. So where can a

Sponsor look for extra leverage? Two sources of acquisition finance over and above senior

debt are becoming increasingly popular – mezzanine (mezz) holdco loans and vendor

finance.

Mezzanine Holdco Loan

Senior debt is generally advanced to a member of the operating group (or a special purpose

finance company above it) and secured over the assets of the operating companies. On the

other hand, a mezzanine holdco loan is advanced to a company above the senior obligor

group and secured over just the shares in the holding company beneath it.

Mezzanine lenders are structurally subordinate to the senior lenders since on insolvency

any recovery of proceeds from the operating group will flow first to the senior lenders before

being paid to the holding companies and the mezzanine lenders. There is therefore no need

for the mezzanine lenders to enter into contractual subordination arrangements with the

senior lenders and this increases deal certainty as well as minimising negotiation time

and expense.

Interestingly, up until recently mezzanine loans in Australia were confined to a single lender,

day one single advance. These days mezz loans are becoming more complex and

structurally more like senior loans, other than the subordination, security and pricing.

Thus, we have recently documented multi-lender mezzanine loans involving multiple

tranches and draws, long dated availability and even accordion facilities.

Vendor Finance

Also known as deferred consideration, vendor finance is an agreement to pay some of the

acquisition consideration at a later date.

A recent example of its growing use is the sale by Ardent Leisure of its Goodlife gymnasium

chain to Quadrant Private Equity which included vendor finance of $30m, payable within two

years with no interest and subordinated to bank debt.

The rise of Mezzanine and vendor finance