Benefits That Sponsors Want:
Senior lenders able to advance more proceeds at low senior rates; Senior lenders allowing an extra 0.25 to 0.50 turns of sub debt; Higher free cash flow, even with higher leverage; Lower risk of financial distress; Shared pain with junior lenders if the deal goes sideways. The lower total interest rate avoids an equity trap where enterprise value grows a little, but equity value is destroyed by compounding high coupon debt.
Structural Elements to Deliver These Benefits:
Lower cash coupon to improve debt service coverage; Lower total coupon to reflect market conditions; More pay in kind (PIK) interest to provide post-closing flexibility; Warrants to create alignment of interests between subordinated lenders and sponsors; Partnership approach with lenders and sponsors who work together on a series of deals over time
Who is Well Positioned to Deliver These Benefits:
Privately funded, sponsor driven subordinated debt lenders, especially those who use some leverage in their funding sources, are best suited to provide financing that meets these goals. These firms have a cost structure that allows competitive pricing and a philosophy that makes them reliable partners.