Subordinate Financing

What is Subordinate Financing

Subordinate financing is debt financing that is positioned behind that held by secured lenders in terms of the order in which the debt is repaid. "Subordinate" financing infers that the debt positions behind the primary secured lender, and means that the secured lenders will be paid back before subordinate debt holders.

BREAKING DOWN Subordinate Financing

The lender's risk in subordinate financing is higher than that of senior lenders in light of the fact that the claim on assets is lower. Therefore, subordinate financing can be comprised of a mix of debt and equity financing. This permits the lender required to search for an equity part, for example, warrants or options, to give unexpected yield and repay to the higher risk.

Risks of Subordinate Financing

On the off chance that a company needs to file for bankruptcy or countenances liquidation with both subordinate financing and senior debt on the books, then, at that point, the unsubordinated debt is paid back first before the subordinated debt. Once the unsubordinated debt is totally paid back, the company then, at that point, repays the subordinated debt.

For instance, expect a company has secured senior debt of $60 million and subordinate financing that totals $40 million. All if a company liquidates its assets in a bankruptcy for $80 million, it first requirements to pay off the $60 million measure of its debt held by secured lenders. The leftover subordinated debt is just half repaid for $20 million due to the lack of liquidated funds.

Likely lenders or debt investors really must know about a company's outlook for solvency, other debt commitments and total assets while inspecting an issued bond. While this type of debt is riskier for lenders, it's actually paid out ahead of equity holders. Subordinate financing ordinarily offers higher rates of interest to make up for the likely risk of default.

Types of Subordinate Financing

Subordinated bonds can be found generally in bonds issued by major banks.

Asset-backed securities are one more type of subordinated debt. These collateralized types of securities are generally issued in various types of classes, otherwise called tranches - each with various levels of risk, interest rates, and maturities.

One more type of subordinated financing is a mezzanine debt. These are frequently issued as either preferred stock or unsecured debt and are by and large simply senior to common stock. Mezzanine debt acts as a hybrid security.