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Capital Formation and Capital Placement
Capital Formation and Capital Placement
My Blog
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Mezzanine Debt Explained in Plain Egnlish
| Posted on 9 November, 2015 at 1:01 |
Mezzanine financing is a sometimes confusing part of
the capital structure in a real estate transaction. Part of the reason
for this is that the term mezzanine is really a catch-all for an entire
category of non-senior mortgage debt, non-common equity instruments that
can fill a capitalization gap between them. Mezzanine (“middle”) financing can take the form of debt or equity, more specifically:
Senior mortgage debt is legally secured, or
collateralized, by the physical property and the associated cash flows. A
lien is placed on the property and recorded with the government to
certify this legal relationship. In all cases, the mezzanine instrument is subordinate to the senior
debt, and in virtually all cases, the mezzanine instrument is not
secured by the property, but rather by the equity in the entity that
owns the equity in the property. As such, the mezzanine position is a
riskier one to be in, and for this reason, the cost of mezzanine capital
is higher than that of senior mortgage debt. Assuming the mezzanine takes the form of junior debt, it would be modeled as follows:
If the mezzanine financing takes the form of preferred equity, the
funding will depend on the joint venture operating agreement between the
mezzanine investor and the property equity sponsor. The preferred
shares will give the holders of those shares some set of specified
rights above that of the common equity, but again, it will still be
subordinate to the senior debt. An example is that the preferred equity
will participate in a priority preferred return whereas the common
equity will not.
Convertible debt provides the debt with the option to convert into common equity at specific terms, and participating debt will receive interest payments and also participate in income above a specified level.
Check out this Bruce's blog post
for things to consider related to taking on mezzanine debt and the
audio interview for details on inter-creditor agreements between mezz
and senior lenders.
### Based in Arlington, VA, REFM was founded by Bruce Kirsch in 2009.
Mr. Kirsch is a recognized expert in and top instructor of Microsoft
Excel-based financial modeling for real estate transactions. Through
REFM, Kirsch has trained both new and experienced real estate
professionals in financial modeling from a wide variety of real estate
businesses, organizations and institutions, including private equity,
development, brokerage, trade groups and government. To read more
articles by Bruce Kirsch go to: http://www.getrefm.com/blog/ or contact Bruce at [email protected] |
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