Module 6

Question 1

Financial Investors investing in “growth” companies will seek financing sources that achieve what 4 objectives?

Answer 1

1) Minimize equity injections
2) Optimize cash conversion from EBITDA
3) Provide payment flexibility that matches investment holding periods
4 Facilitate future growth and expansion

Question 2

What are 5 common features of term debt for acquisitions by financial investors?

Answer 2

1) Maturity - 5-7 yrs to replicate holding period
2) Interest Rate - fixed or variable similar to revolving credit lines of prime + 3% or less
3) Security - General security agreement over assets
4) Principal Repayment - negotiable, ranging from equal amortization to bullet style payments on maturity
5) Covenants - Interest or fixed-charge coverage requirements, debt to EBITA or Debt-Equity limits

Question 3

What are the 4 main drawbacks of issuing corporate bonds?

Answer 3

1) Lack of flexibility with respect to covenant breaches
2) Inability to re-negotiate financing terms without having to replace facility
3) Obligation to file public financial statements in accordance with public issuer protocols
4) Increased overhead costs including annual bond rating costs and higher stakeholder relations costs

Question 4

What are the 8 key features of Subordinate Debt?

Answer 4

1) Security - Ranking ahead of equity
2) Covenants - Restrictions on shareholder dist.
3) Principal Repayment - Bullet payments
4) Cash Sweep - rather than stating specific principal requirement, payments may be based on excess FCF generated by company at year end
5) Change of control provision - rest. on equity holders ability to sell controlling interest in the company without repaying sub debt is always in place
6) Interest Rate - Ranges between 8-18 % annually
7) Cash interest payment - facilitate flexibility, sub debt providers allow for some or all interest to be PIK
8) Warrants - hybrid feature issued that are exercisable on change of control or ultimate investment exit period

Question 5

What two key negotiation considerations should be given for convertible debt?

Answer 5

1) Conversion Price and conversion ratio to common equity - portfolio company investors that issue convertible debt will hope to keep conversion price high and conversion ratio low
2) The lock-up period or any restrictions on conversion - Portfolio company investors will typically want to negotiate some type of restriction so that they can mitigate the amount of dilution that they will face