In the current market, in which many private equity sponsors and other investors are leveraging debt as a means of avoiding repricing their investments, we are noticing a convergence of the characteristics of debt and equity return hurdles: debt financing parties are now more likely than ever to dip into the private equity toolkit by utilizing equity-like economic sweeteners for lenders. These provisions can appeal to both borrowers and lenders because they enable borrowers to conserve near-term cash and incentivize debt investments while hardwiring lenders’ returns on their debt investments in anticipation of a near-term exit or other realization event. While equity-like sweeteners can be useful tools under the right circumstances, they may pose heightened risks for lenders in a downside scenario. These risks, as well as the tax implications of such equity-like sweeteners, should be taken into account when negotiating debt financing transactions.
This article will examine some of these equity-like sweeteners, why they have become popular, and the risks and structuring considerations for investors considering including such provisions in their financing terms.
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