Compiled by Aishwarya Ade
│What Is Bridge Financing?
Bridge financing is a form of temporary or interim financing, intended to cover an entity’s short-term expenses until a long-term financing option can be secured. Bridge financing is usually issued by an investment bank or a venture capital firm in the form of a loan or an equity instrument.
Unlike traditional loan, it can also be used for Initial Public Offerings (IPO) or may include an equity-for-capital exchange.
│How Does Bridge Financing Work?
Bridge financing is said to “bridge” the gap of the timeframe between: when a company’s funds is set to run out and when it can expect to secure an injection of funds subsequently. Such type of financing is usually undertaken to fulfil a company’s short-term working capital requirements.
An enterprise can secure bridge financing in numerous ways, wherein such options will depend on the borrower’s credit history & profile. A company with a relatively solid position, credit history & market position and one that is need of a short-term credit loan, will usually have more options available at its disposal as compared to a company in a huge financial distress.
It is crucial for companies to consider bridge financing diligently, as it can entail a very high interest rate that can further give rise to even more financial problems.
Bridge financing is usually not straightforward and has a lot of provisions set in place to help protect the lender.
│Types of Bridge Financing
Bridge financing options typically include: Debt, Equity, and IPO bridge financing.
│Practical Example of Bridge Financing
A mining company may secure a ₹110 Crores funding amount in order to develop a new mine which is expected to generate more profit & that surpasses the original loan amount.
A venture capital firm may provide the funding, and it is common for them to charge a 20% interest rate p.a. due to the amount of risk involved, and require a full payback in one year. The interest rate provision (specified in the term sheet) can be subject to change and may increase if the borrower defaults or does not repay on time, for example, to 25% p.a.
Venture capital firms may also implement a convertibility clause, which is an option to convert a certain loan amount into equity at an agreed-upon stock price. For example, ₹56 Crores of the ₹110 Crores loan may be converted into equity at ₹750 per share if the venture decides to do so. The ₹750 price tag may be further negotiated or it may also simply be a fair price of the company’s share at the time the deal is struck. Other clauses/terms may include mandatory and immediate repayment, if the company sources additional funding that surpasses the outstanding balance of the loan.