The key to successfully negotiating bridge loan financing with HML Solutions or any other lender involves understanding the terms, structure and timing associated with a bridge loan commitment. Bridge loans are commonly used to finance mergers and acquisitions, but it’s important to analyze the economics of the overall transaction before committing to the bridge loan.
Private equity sponsors or corporations trying to win an acquisition bid may need to get a bridge loan as one of the final steps in the process. But bridge loans can be notoriously complex and could culminate in a variety of potential outcomes. For these reasons, the borrower should be very careful about negotiating with the bridge loan lenders to ensure the terms of the loan are ideal for the situation. When it comes to mergers and acquisitions, the bridge loan terms and costs should factor into the borrower’s acquisition projections.
Understanding Bridge Loans
Unlike long-term loans, a bridge loan is not meant to be a permanent source of financing. Though it is possible for a bridge loan to convert to a long-term form of financing if it is not paid at the end of the initial term, this is not an ideal situation for a borrower to experience. When a bridge loan converts to a long-term loan (usually in the form of a term loan with a longer maturity or a bond), it comes with a higher interest rate than the original bridge loan interest rate. Usually, this higher interest rate is a combination of the rate at the end of the loan’s initial term as well as an added premium.
Before the bridge loan converts into a term loan with a longer maturity or a bond, the loan lenders may require the borrower to pay liquidated damages and file a shelf registration. The liquidated damages usually equate to a percentage of the exchange securities principal amount.
Bridge Loan Fee Structure Terms
Here are a few terms associated with bridge loan fees that borrowers should understand before applying for this type of loan. Understanding these terms helps ensure that borrowers fully understand how bridge loan fees are structured and what is expected of borrowers and lenders who enter into a bridge loan agreement.
- Duration Fee: This is a fee that’s added onto the bridge loan’s outstanding balance. The longer the bridge loan is outstanding, the higher the fee can potentially be.
- Refinancing Fee: If a bridge loan is refinanced before its initial term is complete, a refinancing fee applies. This fee is payable at the time of refinancing and is often equal to the conversion or rollover fee.
- Commitment Fee: A commitment fee is payable when the bridge lender commits to the bridge loan (whether or not the loan is actually funded).
- Deal-Away Fee: If you decide to use another source of financing at the last minute (on the closing date), a deal-away fee is applied. This fee is payable to the bridge lenders and is designed to compensate them for any fees they would have received if they had funded the bridge loan.
- Funding Fee: When bridge lenders fund a bridge loan, the borrower pays a funding fee. This fee is payable on the closing date of the bridge loan. Some lenders may refund part of the funding fee if the bridge loan is refinanced prior to reaching maturity. However, this depends on individual bridge lenders and the time that has passed between the loan’s funding and its repayment. Usually, lenders are willing to refund a larger amount if the bridge loan is refinanced shortly after it is funded. For example, lenders may refund up to 75% of the funding fee if the bridge loan is refinanced within 30 days of its initial funding. If the loan is refinanced within 60 days of the original funding date, the lender may refund 50% of the funding fee. If the loan is refinanced within 90 days of the original funding date, the lender may be willing to refund up to 25% of the funding fee. The outside time frames involving funding fee rebates could potentially be as long as 270 days.
- Bond Underwriting Fee: A bond underwriting fee is applied when the lender underwrites a bond to replace the bridge loan. Usually, the documentation for a bond offering is kept separate from the original bridge loan commitment.
- Conversion/Rollover Fee: A conversion/rollover fee is designed to compensate the bridge lenders if the bridge loan converts automatically into long-term financing at the end of its initial term due to the borrower not refinancing the loan beforehand. The conversion/rollover fee is usually equal to the underwriting fee that would be paid to the lenders if the bridge loan had been refinanced before the end of the initial term. The conversion/rollover fee may qualify for a rebate, depending on how soon the loan is repaid after it rolls over into a long-term bond.
To avoid potentially paying overlapping fees, it’s important to pay close attention when negotiating fees related to bridge loans. There are some fees that could overlap in cases of inadequate fee negotiation or failure to pay attention to fee terms. Some potential overlaps include the refinancing fee, which could overlap with the deal-away fee. Similarly, the bond underwriting fee could overlap with the refinancing fee in certain situations. Astute borrowers should be aware of this and negotiate during initial bridge loan discussions to cut back on potential instances of fee overlap.
Long-Term Financing Terms
Experienced sponsors who know how to negotiate commitment letters with at least one lender understand how “market flex” works in fee letters. “Market flex” provisions specify that committing lenders can “flex” particular credit facility terms. When underwriters request the ability to vary long-term financing terms to allow for the placement of long-term debt securities or the long-term credit facility’s syndication, the broad discretion requested can be referred to as flex rights. The scope of a sponsor’s flex rights depends on a variety of factors in capital markets, including leverage, sponsor relationship and issuer credit profile.
Terms that may be subject to flex rights include:
- Price
- Financial covenants
- Senior debt
- Second lien tranches
- Financial covenant calculations
- Maturities
Flex rights are important to understand, as they can impact terms significantly in some situations. Flex provisions apply to bridge loan commitments as well as other loan types.
Securities Demand Provisions
One of the most controversial provisions associated with bridge loan negotiation is called the securities demand provision. This provision allows the lender to require the borrower to refinance the loan by issuing long-term debt securities into capital markets. The investment bank controls the long-term financing timing once the securities demand conditions are satisfied. The borrower does not control when the long-term financing is taken to market.
When it comes to negotiating securities demand provisions, a borrower should be aware of the following negotiation points.
- Sale Process Requirements: This refers to requests from the borrower to the lender to obtain the best securities offering price (or at least make a sincere attempt).
- Timing: It may be possible for the borrower to limit the ability of the bridge lender to make a securities demand until after funding of the bridge loan. This provides some bridge funding flexibility in the event that the long-term debt price is higher at the time of closing. It can be difficult to obtain “holiday” periods like these from bridge lenders, though.
- Number and Size of Demands: Borrowers may attempt to limit the minimum size, frequency and number of each demand. If done successfully, this can limit the costs associated with multiple securities demands.
It may not always be possible to negotiate securities demands to match all the desires of the borrower. But it is worth the effort to see if some of the securities demands can be changed to favor the borrower a little more. If lenders are not willing to negotiate terms to a borrower’s satisfaction, it’s important for the borrower to understand that the lender is also taking a risk by making a bridge loan commitment. The terms should ideally be reasonable for both parties involved in the transaction.
In the case of security demand failure, bridge lenders and borrowers must negotiate potential remedies. Typically, lenders will request the ability to utilize the following options if the securities demand fails:
- Default under the bridge loan for the duration of the failure
- Increase in the interest rate associated with the bridge loan
- Conversion/rollover fee payment
- Modification of the terms associated with the bridge loan (to include defeasance)
Borrowers may also seek to acquire provisions permitting them to refuse any securities demand that could cause adverse tax consequences to the borrower.
Conclusion
A bridge loan can be very helpful for anyone who needs quick cash for mergers and acquisitions. However, before a borrower signs closing documents on such a loan, he or she should make sure the best economic terms have been sought. The more borrowers understand about securities demands, legal terms and flex key economic terms associated with bridge loans, the easier it will be for them to make financial projections and negotiate limits to minimize financial risk.
