Vendor loans: an effective way to improve deal flow

Read the article :

After Covid had affected the global economy, the feeling of uncertainty increased. High energy prices, restrictions in the global supply chain, and the invasion of Ukraine triggered inflation to reach its highest level in 40 years.  

Central banks reacted swiftly and aggressively, increasing interest rates from historic lows to 4.25% in the UK, and 3.75% across the eurozone. 

The good news is that monetary tightening seems to be working, at least in the eurozone where inflation eased to 6.9% in March 2023, down from 8.5% the month before.

The UK, however, is struggling to get on top of inflation which remains stubbornly over 10%. 

The renewed tensions in the banking sector point to the challenges of adjusting to this new – and unexpected – economic reality. How did higher rates and a slow down in growth impact investor sentiment and M&A activity? 

Difficult access to financial markets

The eurozone and the UK narrowly avoided going into recession, but global stock markets fell sharply, and investor sentiment took a knock. This wasn’t all bad news for the M&A sector because lower valuations – especially in the tech sector – are creating once-in-a-generation bargains for buyers.

There was just one problem: the hikes in interest rates had made funding much more difficult. M&A advisors across the Benelux, DACH, UKI, and French markets have reported a decline of between 10% and 41% in the availability of deal financing. The opportunities are still there, but according to Wolfcorner “deals are taking more time to complete as companies have to find alternative funding sources”.

Research by Deloitte into the outlook for the Dutch M&A sector reached the same conclusion. “Lender scrutiny is high,” the authors noted, “resulting in lower leverage, which adds to an increasing valuation gap between buyers and sellers. Expected solutions to bridge that gap lie in alternative deal structures, including … vendor loans.”

In an M&A transaction funded by a vendor loan, it is the seller – not a bank – that provides the buyer with the financing required to conclude the deal and pay it off over time.

There are many different terms for this arrangement, including “supplier finance”, “supply chain finance”, “reverse factoring” and “trade finance”. Whatever the name – and we will stick to “vendor loans” – this funding mechanism is growing in popularity as higher interest rates are making it difficult for buyers to self-fund through traditional bank loans.

The growing relevance of vendor loans

It comes as no surprise that the second half of last year saw a steep rise in the number of M&A transactions financed through vendor loans.  An increase in vendor loan deals of 38% was reported in the UKI February 2023 M&A Monitor. This trend was similar in other European markets, each with its own nuances.

Clearly, the decisive advantage of vendor loans for both parties is that without this means of funding, the deal might not have been possible (or would have been delayed indefinitely), as bank finance was either not available or too costly.

But there are many other benefits that make vendor loans an attractive option, even if traditional banking finance is available. 

The seller issuing the vendor loan may be able to command a higher price because the deal depends on its consent to fund it. Once the deal is signed, the vendor continues to receive an income stream from the interest payments of the business it no longer owns. 

The buyer can often negotiate favourable financing terms because it is also in the interest of the lender that the deal goes through. The new owner then pays the vendor not upfront but in instalments, funded by business profits. 

Both parties want the transaction to happen, but each needs to defend its own interest.

Why Dealsuite 

Trust is a cornerstone of Dealsuite. Advisors are screened before they can join the platform and leverage Europe’s most complete network of M&A professionals. Vendor loans remove financing barriers for buyers that are constrained by the current high-interest rate environment.

Interested to learn more about vendor loans and other M&A insights? Enter your email in the form below to sign up for our monthly newsletters and stay up to date with our latest articles. 

 

New call-to-action

Related articles