Debt Financing

With this equity capital commitment, the investment banker proceeds to arrange debt financing. In a leveraged buyout two forms of debt typically are employed: senior debt and junior subordinated debt. For the senior debt, a large New York bank, through its asset based lending subsidiary, has agreed to provide $85 million toward the cost plus an additional $8 million revolving credit for seasonal needs. The rate on both arrangements is 2 percent over the prime rate. and the loans are secured by liens on all of the assets real estate, buildings, equipment, rolling stock, inventories, and receivables. The term of the $85 million loan is 6 years, and it is payable in equal monthly installments of principal with interest for the month being added on. All major banking will be with the bank and company receipts will be deposited into a special account at the bank for purposes of servicing the debt. In addition to the collateral, the usual protective covenants are imposed in a loan agreement.

junior subordinated debt in the amount of $171 million has been arranged with the merger funding subsidiary of a large finance company. This debt some¬ times is referred to as "mezzanine layer" financing, as it falls between senior debt and the equity. The loan is for 7 years with an interest rate of 15 percent being fixed throughout. Only monthly interest payments are required during the 7 years, the full principal amount being due at the end. As the senior lender will have liens on all assets, the debt is unsecured and subordinated to the senior debt as well as to all trade creditors. For this subordinated financing, the lender receives warrants exercisable for 40 percent of the stock. These warrants may be exercised at anytime throughout the 7 years at a price of $1 per share, quite nominal. If exercised, management's stock as well as that of the equity investor will each go from 50 percent of the amount outstanding to 30 percent. To recapitulate, the financing is as follows:

Senior debt-$85.0 million
Junior subordinated debt-17.5
Equity-7.5
Total-$110,0 million

In addition, the company will have access to an $8 million revolving credit for seasonal needs.