Comparing mezzanine financing to venture capital

Mezzanine capital is commonly referred to as "bridge financing" and may be in the form of cash loans in return for equity in a business or to be repaid with a significant interest rate. Typically a business who is searching for bridge financing is considering going public or doing a substantial expansion of their operations. Venture capital on the other hand is generally the financing that is sought by companies who are just getting started. Here are some other significant differences between mezzanine financing and venture capital.

Start-up versus established business

Venture capital financing is one of the methods that is used by new business ventures to launch a business idea. In these cases, an extensive business plan is prepared by the company and may include vision statements, demographics and projected financial information for a  company. In many cases, venture capital is two-fold and offers investors an equity position in the company that sometimes decreases as the financing is repaid.

Mezzanine capital is almost always sought by companies who have an established track record and may need immediate financing for a short period of time. This financing is usually available only to a company that has developed significant equity and can show that equity on their financial statements. Mezzanine capital is usually a form of financing that combines an option to repay the loan and offers the investors and equity position in the company.

Due diligence

Companies that are seeking venture capital financing almost always go through an extensive due diligence process. This means the investors are vetting all of the
information that is provided by the entrepreneur and validating the information. This would involve doing demographic studies, sales forecasts and marketing forecasts. Due diligence is how the investor weighs the risk they are taking when investing in a start up company.

Companies that are seeking mezzanine financing are typically not going to be subjected to the strict due diligence that those seeking venture capital are seeking. This is because the financing is typically very short term and the investors are going to make an investment based on another event occurring.

This type of financing is almost always used when a company is going to acquire another company, purchase a new facility or offer their company stock on the stock exchange. In almost all cases, the "financial" statement of the company is what the investors use to make their decisions.

Ownership rights

While many venture capital firms take an equity position in a company, in most cases, these positions may be "bought out" as the company grows, and begins paying back the funds. With mezzanine financing, the investors nearly always make the investment in the hopes that over the long term they will be rewarded with an equity position in the company. The mezzanine capital lender has the option of converting their investment into an equity position in the company.

Mezzanine financing and venture capital financing are significantly different forms of financing. The one similarity that is offered by both is the potential for high returns on the investment. Companies that are going public, companies that are making an acquisition of another company and those that are well established would be likely candidates for mezzanine capital financing while start up companies are better candidates for venture capital funding.

Companies who are considering either type of financing should be aware of the pros and cons associated with both types of investments. There is a good chance that a company could forfeit a fair amount of ownership with either type of financing and this could jeopardize their vision for the future.