What Is Bridge Financing?
Bridge financing is an interim financing option used by companies and other entities to secure their short-term position until a long-term financing solution can be arranged. Bridge financing typically comes from investment banks or venture capital firms in the form of a loan or equity investment.
Bridge financing can also be utilized for initial public offerings (IPO) or might include an equity-for-capital exchange rather than a loan.
Key Takeaways
- Various Forms: Bridge financing can be either debt or equity and is often employed during an IPO.
- Short-Term: Bridge loans are short-term in nature and generally have high interest rates.
- Equity Investment: companies may offer equity in return for financing.
- IPO Use: Companies use IPO bridge financing to cover IPO costs, which are then paid off after going public.
How Bridge Financing Works
Bridge financing “bridges” the gap between when a company’s funds are about to run out and when it expects an influx of new funds. This financing type typically meets short-term working capital needs.
The arrangement for bridge financing varies, depending on the company’s condition and available options, including debt, equity, and IPO bridge financing.
Types of Bridge Financing
Debt Bridge Financing
Debt bridge financing involves taking out a short-term, high-interest loan, known as a bridge loan. Companies must exercise caution, as the high-interest rates can lead to further financial challenges.
Example: Suppose a company is approved for a $500,000 bank loan, disbursed in tranches, with the first tranche arriving in six months. The company might seek a six-month short-term bridge loan to survive until the tranche is received.
Equity Bridge Financing
To avoid high-interest debt, companies may seek venture capital firms to provide capital through an equity bridge financing round. This capital supports the company until it can secure a larger round of equity financing.
Example: A company may offer equity ownership to a venture capital firm in exchange for several months to a year’s worth of financing. This is attractive if the firm believes in the company’s potential profitability, thereby increasing the value of its equity stake.
IPO Bridge Financing
In the realm of investment banking, bridge financing serves companies preparing for their IPO. This short-term financing offsets IPO expenses and is repaid via funds raised during the offering.
Underwriters providing these funds often receive shares at a discounted issue price as compensation, functioning as an upfront payment for future shares.
Real-World Example of Bridge Financing
Bridge financing is prevalent in many sectors, notably in the mining industry. Companies in this sector often utilize bridge financing to develop resources or cover costs until further funds can be raised through share issuance.
Example: Consider a mining company that secures $12 million to develop a new mine, expecting profits to exceed the loan amount. A venture capital firm providing this funding may charge 20% per year, requiring full repayment within a year. The loan’s term sheet could include provisions like interest rate hikes if repaid late, or convertibility clauses allowing loan portions to be converted into equity at a specified stock price. Other conditions might mandate immediate repayment if the company secures additional funding surpassing the outstanding loan balance.
Related Terms: bridge loan, public offerings, working capital, tranches, equity financing, investment banking.
