Equity Kicker

What is the Equity Kicker?

An equity kicker is an equity incentive scheme that helps an entity to encourage the investors (mainly privately placed investors) to improvise the return and purchase of debt securities such as bond and preferred share in a combination with an equity (to attain ownership at a later date) instrument at a reduced rate of interest.

Explanation

Equity kickers is an arrangement by lending companies in which a lender provides a lower interest rate and exchange position of ownership in the borrower’s company. This concept is also applying to the warrantsWarrantsA Stock Warrant gives the holder the right to buy the company's stock at a predetermined price in a specific time period, and when the holder exercises the right, the holder buys the company's stock and the company receives the money as its source of capital.read more attached to the bondsBondsA bond is financial instrument that denotes the debt owed by the issuer to the bondholder. Issuer is liable to pay the coupon (an interest) on the same. These are also negotiable and the interest can be paid monthly, quarterly, half-yearly or even annually whichever is agreed mutually.read more already issued, and it allows investors to buy a certain number of the shares at a fixed price of the issuer.

These are the incentives designed to make it feasible for a business to secure funds through a borrowing system. A subordinated lender that distinguishes a high level of probability with the proposed arrangement is demanded this instrument named as an equity kicker. These arrangements are common in start-up projects to manage their finance. These are generally used with MBOs, LBOs, and equity recapitalizationsRecapitalizationsA recapitalization is a method of restructuring the ratios of various capital-generating modes, such as debt, equity, and preference shares, based on WACC and other company requirements, such as desired control level.read more.

Equity Kicker

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How does it Work?

Companies using Equity Kicker to boost the growth of the company. It is organized in a way where the lender has right over equity ownership. It is specified to be paid at a future date or upcoming time when the company will accomplish its goal or get a certain profit to fulfill the lenders’ obligation. Equity Kicker is majorly famous for startup companies to manage the financial funds through it. In this arrangement of equityEquityEquity refers to investor’s ownership of a company representing the amount they would receive after liquidating assets and paying off the liabilities and debts. It is the difference between the assets and liabilities shown on a company's balance sheet.read more, the company will get funds for the company’s growth at lower rates, and despite giving interest, they must give ownership in the equity fund to the lenders.

Example

Warrants are one of the examples of Equity kickers: Let us assume the debt is arranged as a warrant, where the lenders have the option to purchase a certain amount of securities for a future date at a specified price. Say, the borrower can provide 12% warrant coverage on the lenders’ amount to the borrowing company.

Lenders Option

Lenders always play a vital role in the Equity kicker. They provide financing to the borrowing company to help them in achieving targets and specific performance. Hence, it will increase the value of the company more than its fair market value. Lenders will get ownership in equity capital in terms of the exchange that only can be paid if liquidity will arise. If liquidityLiquidityLiquidity shows the ease of converting the assets or the securities of the company into the cash. Liquidity is the ability of the firm to pay off the current liabilities with the current assets it possesses.read more does not occur, then the lenders will continue as an equity position in the company. When the financial results are declared, they will get dividendDividendDividend is that portion of profit which is distributed to the shareholders of the company as the reward for their investment in the company and its distribution amount is decided by the board of the company and thereafter approved by the shareholders of the company.read more benefits. Also, the lender will get their share in earnings proportionately to their ownership in equity.

Seller Options

Generally, this arrangement has a similar effect as a takeback note: both provide to expand the sale price above the fair market price level, and they can only be paid if a liquidity event occurs. For instance, a seller may receive an equity kicker in the preferred scenario when he sells the company. Perhaps an even more feasible option is for the seller to preserve an equity position in the traded company. That said position could be considered participating preferred, giving the seller access to regular dividends as a common dividend or proportion of earningsEarningsEarnings are usually defined as the net income of the company obtained after reducing the cost of sales, operating expenses, interest, and taxes from all the sales revenue for a specific time period. In the case of an individual, it comprises wages or salaries or other payments.read more, allowing the seller to access the organization’s upside potential post-deal. These arrangements are helpful for both sellers and buyers to meet in the middle.

Uses of Equity Kicker

Equity Kicker is the easiest way to get credit from the lender at an exceptionally low rate for its development. Where the borrowing company does not afford funding at higher rates of interest, so it uses such kickers as a tool for fund managementFunding At Higher Rates Of Interest, So It Uses Such Kickers As A Tool For Fund ManagementFund management is the process of a company taking a person's, company's, or another fund management company's financial assets (generally high net worth individuals) and investing them in companies that use those funds as an operational investment, financial investment, or any other investment in order to grow the fund.read more in the company. It is basically used in the start-up companies for managing the fund requirements, which are necessary for the requirement of a successful business at an early stage. It is also beneficial for the lenders to get ownership of the company’s equity fund instead of interest. Equity Kicker is used in real estate companies as a creative financial tool for investment purposes.

Equity Kicker in Real Estate

Real Estate Companies need a higher amount of funds for investment purposes, so Equity kicker is the best way to get funding through debt financing with the liquidity of funds. When the investor does not have the funds required for the investment purposes and completes the transactions related to businessTransactions Related To BusinessA business transaction is the exchange of goods or services for cash with third parties (such as customers, vendors, etc.). The goods involved have monetary and tangible economic value, which may be recorded and presented in the company's financial statements.read more, they will choose this fund as a financing investment tool to ease the fund’s requirement. With equity kickers’ help, the lender will get ownership in debt and equity position specified in the particular property. In case of a mortgage, the contact lender is guaranteed a share in the income retained through the property. So, this method is beneficial for lenders as well as borrowers.

Benefits

  • This arrangement of funds is beneficial for the early stage and start-up companies.
  • This method attracts investors to invest in the company by making securities attractive as per the investors’ perspective.
  • This method is also beneficial for real estate businesses to create liquidity and meet loan requirements.
  • Equity Kicker is the traditional incentive to boost the business by the term kicker. It can easily enhance the marketability of the borrower company.

Conclusion

Equity Kicker is the traditional way of providing credit at a reduced rate to the borrower company in exchange; it will get ownership in the equity. Early-stage companies use it as a tool to access funds to manage their operations. It will also help get investors by earning trust through lenders company.

These kickers are used with MBOs, equity recapitalizations, and LBOs. Such types of transactions are considered risky to entice conventional forms of debt. However, subordinate lenders use the kickers to counterbalance them from the expanded risk of lending to companies with inadequate collateral for loans. The kickers use this convertible feature for warrants or shares at a specified future date and can be prompted by liquidity events.

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