After several slow-paced years, the rate of mergers and acquisitions skyrocketed in 2021. Fighting through a wave of pandemic-related setbacks, business owners saw historic growth and opportunities to expand their operations.
According to data from Willis Towers Watson, the year marked the global economy’s first positive performance of mergers and acquisitions since 2016. Deals came in upwards of $100 million in various industries and 2021 was considered to be the most active market in more than a decade.
Recently, a key resource for companies that completed mergers or carried out acquisitions has been delayed draw term loans (DDTLs). For small to medium-sized enterprises (SMEs), a delayed draw term loan allows for peace of mind when considering big purchases, with the guarantee of financial influxes at set intervals.
However, any SME owner can tell you it has become increasingly rare to receive loans like DDTLs from traditional banking institutions. Subject to greater regulatory scrutiny after the 2008-09 financial crisis, most banks tend to favor larger, more established companies.
Fortunately, alternative lenders like business development companies (BDCs) have risen to meet the needs of growing businesses. Saratoga Investment Corp. is one such BDC, and takes pride in providing meaningful investments to businesses at crucial times in their financial journey. A BDC offers companies the flexibility, speed, and transparency necessary to achieve success and reach important growth milestones. Furthermore, the application process at most BDCs is simplified so exciting opportunities are not lost in a sea of paperwork and waiting periods.
Delayed draw term loans are one way BDCs like Saratoga Investment Corp. can meet the needs of small to medium-sized enterprises. Keep reading for more information about this unique form of financing.
What Is A Delayed Draw Term Loan?
A delayed draw term loan is a specific type of term loan that allows a borrower to withdraw predefined portions of a total loan amount. Unlike a traditional term loan that is provided in a lump sum, a DDTL is released at predetermined intervals. For example, the involved parties can agree upon intervals such as every three, six, or nine months.
DDTLs are typically included in deals for businesses ready to make an acquisition or otherwise finance growth. Borrowers are given a draw period within which they can repeatedly pull funds from their predetermined total amount. This way, smaller acquisitions can be made as opportunities arise.
Many private equity firms favor DDTLs for their usefulness in buy-and-build strategies. Simply put, a firm will buy a business and slowly expand it through a series of acquisitions. While this buy-and-build method usually accounts for four of every ten private equity deals, that number was up to seven out of ten in 2021. Further growth has been noted in the value of global and secondary buyouts, which reached $1.5 trillion in the same year. That is nearly double the previous record of $846.8 billion in 2007.
By taking advantage of DDTLs, which have draw periods anywhere from 12 to 36 months, these businesses can thrive even as markets change. More and more, DDTLs are becoming prevalent among experienced lenders. For many, they represent a quarter of their total lending commitment.
How These Loans Are Structured
Let’s imagine a Software as a Service (SaaS) company wants to expand its offerings to customers. They meet with a lender and land a deal for a $10 million loan. However, the owners of the SaaS company realize that technology in their industry is frequently evolving. Rather than make a large one-time acquisition immediately, they wish to keep an eye on the market for the next couple of years and make multiple groundbreaking acquisitions.
They would benefit from a DDTL agreement in which their lender releases $1 million of their loan at specific intervals, such as each quarter. Now, the SaaS company can search for the right acquisitions with the certainty it will have funds ready when opportunity strikes.
Most DDTLs include an upfront fee and a “ticking fee”. An upfront fee is paid by the borrower to the lender once the loan terms are finalized, and the ticking fee accrues on the undrawn portion of the total loan until it is entirely withdrawn or the account is otherwise completed. The entire loan amount should be paid by the time it reaches maturity.
Sometimes, the payout of delayed draws is based on metrics the company meets. A lender could stipulate that a company surpasses a financial milestone or sells a certain amount of product by the time of a payout before authorizing its release.
A recent example of a DDTL in action occurred when a large automotive platform announced an $825 million credit facility in 2021. Of that total, $100 million was financed through a delayed draw term loan. Similarly, when a healthcare company was bought out in early 2022, $1 million of the $9.25 million debt offering came from a DDTL.
Benefits & Uses For Borrowers
So, what sets delayed draw term loans apart from other financing options? Why is it increasingly favorable for making mergers and acquisitions?
We already covered the fact that the incremental release of funds allows borrowers and lenders to both manage financial decisions at a healthy pace, but there are other benefits to DDTLs.
First and foremost, withdrawing smaller amounts of a guaranteed total means a borrower pays less interest than they would on a lump sum. As a borrower’s needs evolve, a DTTL can accommodate different financial moves. Rather than scramble to find a use for funds near the end of a term loan period, DDTL borrowers can enjoy the security of an extended period and the flexibility that comes with it.
When a borrower wants to make an important acquisition with sudden notice, their loan will be waiting. Additionally, borrowers can access funds quickly — sometimes in as little as three to five days. As the rate of mergers and acquisitions continues to climb, being aware of financial options like DDTLs can give business owners the edge they need to triumph throughout market highs and lows.
Conclusion
Delayed draw term loans are one way SMEs can stay afloat in an increasingly positive M&A market. Their unique nature makes them ideal for growing enterprises. Lenders like Saratoga Investment Corp. are here to meet the monetary needs of companies as they expand their products, services, and operations.
Our partners offer flexibility, speed, transparency, and a streamlined application process to SMEs seeking financing. We aim to provide all of our clients with the resources necessary to come out on top.
If your business is interested in pursuing a loan such as a DDTL, consider Saratoga Investment Corp. You can consult our investment profile to see if we are a good fit.