Structured Equity: A Compelling Alternate to Traditional Solutions
Equity capital without surrendering control or material governance – a longtime dream scenario for company management, shareholders, financial sponsors and boards, has become a reality through the advent of more flexible capital solutions, including structured equity. Today, there are hundreds of investors offering flexible, hybrid debt and equity capital solutions for the wide-ranging objectives of issuers and stakeholders. Structured equity sits in the middle of the capital stack and offers elements of both debt and equity. It can be equity-linked debt, such as convertible debt or debt plus warrants, or senior equity, such as straight preferred or preferred plus warrants.
Structured equity emerged, in part, from the evolution of private equity in recent years. Just two decades ago, private equity largely focused on two dominant investment types: (i) control buyouts, and (ii) venture capital or minority growth equity. After the Global Financial Crisis, many alternative asset managers saw an opportunity to expand into private credit. These investors stepped into the void created by banks that recoiled from lending. Most recently, there’s been a proliferation of new “opportunity” funds with flexible mandates for hybrid capital or structured equity. These expanded mandates and product offerings are resonating with companies and shareholders alike, especially those averse to giving up control, and the appetite for structured capital solutions is ramping up.
What is driving demand for structured equity? The current environment provides a strong backdrop for this asset class. Consider the confluence of trends in this late-cycle market: Interest rates remain historically low, valuation multiples remain elevated, and return expectations have declined. These trends are creating a more competitive private equity market, and asset managers are searching for additional ways to deploy capital. Investors are also more sophisticated and structurally creative, becoming more open to alternative assets and approaches. Meanwhile, companies are staying private longer – leading to more valuable businesses with higher cash flow and/or more equity cushion, and management/shareholders who have an interest in accessing the flexibility of equity without the governance and control elements of majority or traditional minority private equity. For many companies, hybrid capital solutions present a compelling alternative to traditional private equity.
The use cases for structured equity are diverse. It is particularly appealing to both sponsor-backed companies as well as founder-/management-owned businesses that are seeking a lower cost of equity capital for organic or inorganic growth, or shareholder monetization for an asset that has cash flow and/or equity cushion attributes to support structured equity. Specific applications of structured equity include:
- Acquisition financing – e.g., structuring an extra turn of leverage or preferred equity, aiding an acquiror to "stretch" on valuation in today’s competitive market
- Refinancing an over-leveraged company
- Growth capital for a later-stage company that is either fully leveraged or averse to leverage
- Equity recapitalization or shareholder monetization, with lower dilution and governance, examples include:
- A financial sponsor seeking partial monetization of a portfolio company that may have appreciated in value and has sufficient cash flow or equity cushion to support structured equity
- Shareholders of a management-owned business seeking liquidity, without ceding control
- A company-led buyback of a minority shareholder, financed with lower-cost equity – “arbitraging the capital structure”
- Equity-linked debt for high-growth, early-stage companies (e.g., venture debt)
Structured equity offers flexibility for companies and investors alike and represents an intriguing alternative to established private equity and credit products. To discuss how structured equity could help your business achieve its strategic objectives, reach out to our Equity Capital Advisory team.