While mega-corporations and big businesses often make the largest splash in the news, in reality, small and medium-sized enterprises (SMEs) contribute significantly to global economies. In fact, according to the consulting firm, McKinsey & Company, SMEs account for about 99 percent of firms and 70 percent of jobs, and they contribute to more than 50 percent of the GDP in high-income companies worldwide.
First lien loans are one way these businesses can obtain the capital they need to not only thrive in the long term but face present-day challenges such as the need to expand, update their tech stack or decarbonize.
What Is A First Lien Loan?
A first lien loan is a type of legal debt that is secured by collateral, which means if an SME defaults on a loan, the lender can seize the collateral — anything of value such as a company’s specific assets — to recoup their losses until the loan has been repaid.
First lien debt is also known as secured debt. The capital that SMEs need to grow is frequently not available from banks but can be provided by alternative lenders, including business development companies (BDCs) which offer speed, flexibility, and transparency. Known as expansion financing, this capital is used to enlarge a company’s assets by internal or external means. Expanding businesses often prefer debt financing like first lien loans over equity financing, since it doesn’t require ceding shares and carries some tax advantages.
Most SMEs are in the following industries:
- Professional, Scientific, and Technical Services
- Other Services (except Public Administration)
- Construction
- Health Care and Social Assistance
- Retail Trade
- Accommodation and Food Services
- Administrative, Support, and Waste Management
- Wholesale Trade
- Real Estate and Rental and Leasing
Ever since the 2008 financial crisis, banks have been less willing to lend to SMEs, and companies that have only operated for a short time or have poor credit history may also be unable to secure a bank loan. Often these businesses turn to business development companies that help small companies meet their capital needs and support growth.
When a company invests in debt, it’s vital to know whether the debt is a first lien loan or a subordinated debt because first lien debt holders are paid back first, before other debt holders, including senior debt holders, if the borrower fails to pay back the loan. Second lien loans are forms of secured debt that require backing by a specific asset of a company.
Examples
An excellent example of an SME that took out a first lien loan is the popular stationary bike and fitness company, Peloton. It recently took out a $750 million, five-year first lien term loan to provide it with the capital to continue its growth spurt that took off during COVID-19 lockdowns.
And last April, Envision Healthcare, a leading U.S. medical group, announced that several of its subsidiaries entered into new senior first liens that provide the company with an initial $1.1 billion in immediate incremental capital, with up to $200 million in additional capital to invest in the business and pursue growth opportunities. This includes enhancing services for the millions of patients who count on Envision to provide vital resources to clinicians and their teams. The new first lien loan also offers some stability through the turbulent times facing the healthcare industry.
Healthcare organizations in particular are in a state of constant growth and will continue on this path for years to come, in order to meet the needs of an aging U.S. population. National health spending has risen more than five percent per year since 2016. While traditional lenders may balk at risk factors and the complexities of healthcare lending, a BDC like Saratoga Investment Corp. has a strong reputation as one of the country’s top healthcare lending companies and offers these organizations solutions that include first and second lenient loans that offer the kind of capital and streamline service that these SMEs require, now and in the future.
Conclusion
If your small or medium-sized business is interested in pursuing financing that includes a leveraged recapitalization, consider Saratoga Investment Corp. which provides customized financing solutions for middle-market companies across the U.S. You can consult our investment profile to see if we are a good fit.