Define Bridge Financing

Bridge Financing

What Is Bridge Financing and How Does It Work?

Bridge financing, commonly in the form of a bridge loan, is a short-term financing option used by businesses and other organisations to secure their short-term position until a longer-term funding solution can be found. Bridge finance is often provided by a loan or equity investment from an investment bank or venture capital organisation.

In addition to loans, bridge financing is utilised for initial public offerings (IPOs) and may include an equity-for-capital exchange.

TAKEAWAYS IMPORTANT

• Bridge finance can be employed during an IPO and might be in the form of debt or equity.

• Bridge loans are usually short-term and have a high interest rate.

• In exchange for funding, equity bridge financing requires the firm to give up a share of its ownership.

• Companies that are going public employ IPO bridge funding. The money is used to pay the costs of the IPO and is then repaid when the firm goes public.

What is Bridge Financing and How Does It Work?

Bridge finance "bridges" the gap between when a company's funds are expected to run out and when it may anticipate to receive further cash in the future. This sort of financing is typically utilized to meet a business's short-term working capital requirements.

Bridge funding can be provided in a variety of ways. The alternatives accessible to a company or entity will determine the option they choose. A firm in a somewhat stable situation that requires some short-term assistance may have more possibilities than a company in more dire straits. Debt, equity, and IPO bridge financing are all viable choices for bridge financing.

Bridge Financing Types Debt Bridge Financing

A corporation can use bridge financing to get a short-term, high-interest loan, known as a bridge loan. Companies who seek bridge funding through a bridge loan, on the other hand, must be cautious since the interest rates might be so exorbitant that they generate further financial difficulties.

A firm may request a bridge loan if it has previously been authorised for a $500,000 bank loan, but the amount is divided into tranches, with the first tranche due in six months. It can apply for a six-month short-term loan that will provide it with just enough cash to see it through until the first tranche arrives in the bank account.

Bridge Financing with Equity

Companies don't always want to take on high-interest loans. If this is the case, they can look for venture capital companies to fund a bridge financing round, which would give the company with money until a bigger round of equity financing can be raised (if desired).

In this case, the company can opt to give the venture capital firm shares in exchange for six months to a year of funding. The venture capital firm will accept such a deal if it believes the company will eventually become profitable, increasing the value of its investment in the company.

Bridge Financing for Initial Public Offerings

Bridge finance, as defined by investment banking, is a type of funding utilised by firms prior to their first public offering (IPO). This sort of bridge financing is used to pay expenditures related to the IPO and is usually just for a brief period of time. The cash received from the IPO is used to pay off the loan debt as soon as the IPO is completed.

Typically, the investment bank underwriting the new offer provides this cash. The firm obtaining the bridge financing will pay the underwriters a discount on the issue price in exchange for a number of shares, which will be used to repay the loan. This funding is essentially a contribution in advance for the next issue's future sale.

Bridge Financing as an Example

Because there are constantly suffering businesses, bridge funding is fairly frequent in many industries. Small participants in the mining industry frequently utilise bridge financing to develop a mine or pay expenditures until they can issue more shares, which is a standard technique of generating capital in the industry.

Bridge finance is seldom simple, and it usually includes a variety of safeguards to protect the business providing the funding.

A mining business may obtain $12 million in financing to construct a new mine that is projected to generate a profit greater than the loan amount. A venture capital business may give the cash, however because of the dangers, the venture capital firm will demand a 20% annual fee and want the funds to be repaid in one year.

Other stipulations may be included in the loan's term sheet. If the loan is not repaid on time, these might include a rise in the interest rate. It may, for example, climb to 25%.

A convertibility clause may also be implemented by the venture capital company. This implies they can convert a portion of the loan into equity at a pre-determined stock price if the company performs well. A venture capital firm makes the decision to do so. For example, the venture capital company may convert $4 million of the $12 million loan into stock at $5 per share at its discretion. The $5 price tag might be negotiated, or it could simply represent the current share price of the firm at the time the sale is made.

Other terms might include required and immediate payback if the business receives new funding that exceeds the loan's existing sum.