Quick Answer
For a deal larger than the acquirer's cash on hand, the banker arranges financing alongside bid development. The menu runs from cash and revolver capacity through bridge loans, term loan B, senior and high-yield bonds, mezzanine, convertibles, equity issuance, stock consideration, and seller financing or earn-outs. A committed-financing letter gives the bid closing certainty in competitive processes.
The financing decision is layered: the banker has to choose the sources of financing (debt, equity, stock, seller paper) and the certainty mechanism (commitment letter, bridge, fully underwritten financing) that the seller will accept as evidence the bid can close.
What Sources Make Up the Buy-Side Financing Menu?
The full financing menu the banker considers for a buy-side deal:
| Source | Use | Notes |
|---|---|---|
| Existing cash and revolver capacity | Smallest, fastest deals | No new financing risk; uses up balance-sheet flex |
| Bridge loan | Acquisition financing pending permanent take-out | Interim commitment with negotiated pricing, maturity, and take-out terms; can provide closing certainty to the seller |
| Term loan B (TLB) | Senior secured permanent take-out, syndicated to institutional investors | Floating-rate institutional term debt with transaction-specific maturity and covenants |
| Senior unsecured bonds | Permanent take-out, public registration or private resale to qualified institutional buyers | Fixed-rate term financing |
| High-yield bonds | For sub-investment-grade acquirers or above-investment-grade leverage levels | Higher cost but no equity dilution |
| Mezzanine / second lien | Subordinated layer between senior debt and equity | Used in LBO structures; higher cost than senior |
| Convertible bonds | Lower coupon, equity-linked | Convertible into acquirer stock; partially dilutive |
| Equity issuance (follow-on, private investment in public equity (PIPE)) | New acquirer shares to fund cash consideration | Dilutive; market-window dependent |
| Stock consideration to target shareholders | No cash needed; target shareholders become acquirer shareholders | May require an acquirer-shareholder vote under applicable exchange issuance, pricing, control, or public-offering rules; registration or an exemption must also be addressed |
| Seller financing, earn-outs, contingent value rights (CVRs) | Bridges valuation gaps | Defers part of the purchase price; ties payment to post-close performance |
Think of it this way: the financing menu is a set of alternatives, not one fixed cost or seniority ordering across every source. Among the debt layers used inside an LBO specifically, seniority runs senior secured through subordinated to mezzanine. Equity (issued or received as stock consideration) generally carries no fixed repayment or covenants but dilutes existing holders. Actual pricing and terms for each source are negotiated and transaction-specific. The banker designs the mix to clear the bid price while staying within the acquirer's credit and dilution tolerance.
Why Do Sellers Require a Committed-Financing Letter?
In a competitive process, sellers typically require committed financing as a condition of accepting a bid. The committed-financing letter is the bid's closing-certainty proof.
- Bridge commitment letter: investment-bank-issued promise to fund the acquisition financing at signing if the permanent take-out has not closed yet
- Bridge purpose: meant to be refinanced into permanent take-out (TLB, senior unsecured, high-yield) before or shortly after drawdown; the bridge is a fallback, not the long-term financing
- Why it matters to the bid: a fully committed bid is presented as "fully financed," removing financing as a closing condition
- Cost: commitment fee plus negotiated bridge pricing; structuring fees if the bridge funds and is refinanced
How Does the Financing Workstream Sequence With Bid Development?
The financing workstream runs in parallel with bid development, not after it. In a competitive process, sellers typically require committed financing before accepting a bid, so the committed-financing letter is usually in place by the time a bid is expected to compete seriously, though the exact stage depends on the process.
- Early stage: indicative financing plan; lender discussions started
- Later bidding stage: committed-financing letter signed; bid presented as fully financed
- Definitive agreement: financing commitments are confirmed; bridge and permanent take-out are mapped to the closing timeline
- Pre-closing stage: permanent take-out documents (TLB credit agreement, bond purchase agreement) are negotiated; bonds may be sold or held for delayed-draw mechanics
Exam Tip: Gotchas
- A "fully financed" bid is one where financing is NOT a closing condition. The committed-financing letter is the mechanism: the lead investment bank backstops the financing with a bridge, which removes financing risk from the deal even if the permanent take-out has not closed yet.
- A "highly confident" letter is NOT a binding commitment, and it does NOT make a bid fully financed. Only a binding commitment letter (the lender is obligated to fund) removes financing as a closing condition. A highly-confident letter is just the bank's opinion that it can raise the money, not a promise to provide it.
- Bridge loans are MEANT to be refinanced, replaced by permanent take-out debt (TLB, senior unsecured, or high-yield) before or shortly after drawdown. A bridge that funds and stays drawn is an unintentional outcome, not the plan.
- Stock consideration can trigger an acquirer-shareholder vote. Applicable exchange rules on issuance size, pricing, and control can require shareholder approval, and registration or an exemption must be addressed separately. A stock deal that triggers a vote is generally a slower, more procedural transaction than an all-cash deal.
What Should You Check on Exam Day?
- Can you explain why senior secured debt is generally lower cost than mezzanine or equity, and why the exact terms of each source are still negotiated and transaction-specific?
- Do you know why sellers in a competitive process typically require committed financing, and what a bridge commitment letter accomplishes?
- Can you explain why bridge loans are designed to be refinanced rather than held to maturity?