Growth in Third Party Preferred Equity Financing — Flexibility Leads The Way

The trend of direct lenders providing preferred equity financing to support sponsors and operating companies has only accelerated in the two years since we first wrote on the topic (available here). Preferred equity instruments in general provide flexible, bespoke structures that are used in a variety of situations. This article focuses on "structured preferred equity" instruments that have effectively lengthened the leverage profile of private companies. It is generally structured as a covenant-protected, payment-in-kind instrument that often does not participate in the common equity returns of the investment. These instruments provide significant flexibility to direct lenders and sponsors and, if structured correctly, can avoid being treated as indebtedness for accounting and ratings agency purposes. As we continue to see growth in this product, we highlight five key considerations to keep in mind when structuring these instruments: