What is a Mezzanine Loan?

In the context of asset-based lending (ABL), mezzanine loans represent a hybrid financing option that sits between senior debt and equity in the capital structure.

Subordination

Mezzanine loans are either unsecured or secured loans and are “subordinated” to senior debt lenders, including ABL facilities. Typically, the senior lender and the mezzanine lender will enter an “inter-creditor” agreement that spells out their respective lien rights over the company’s assets. Due to their subordinate position, mezzanine loans carry higher risk and thus charge higher interest rates than the senior lender.

Structure and Terms

• Interest Payments: Mezzanine loans may include a combination of cash interest and payment-in-kind (PIK) interest, which accrues and is added to the principal

• Equity Components: Some mezzanine lenders may also request equity warrants or conversion rights, allowing them to participate in the company's equity upside potential (although at much lower percentages than pure equity investors).

• Flexibility: They offer more flexible terms compared to senior debt, with often no required principal amortization and less restrictive covenants

• Complementary to ABL: While ABL focuses on liquid assets like accounts receivable and inventory, mezzanine loans consider the overall enterprise value and cash flow and growth potential of the company