Independent sponsors (fundless sponsors) operate without the backing of a dedicated investment fund. They must source lower middle market private equity acquisition targets and raise capital on a deal-by-deal basis.
This make securing financing—both equity and debt—a crucial step of closing deals. In this article, we’ll explore the debt financing side of the equation. We also have a list of top equity investors, but that’s a separate subject.
So where can independent sponsors obtain debt financing for acquisitions?
Debt Providers for Independent Sponsors
- List of Banks Offering Commercial Loans
- List of Providers of SBIC Funds
- List of Private Credit Funding Sources
- Sources of Debt Financing for Independent Sponsors
- Don’t Go It Alone
Below is a list of specialized debt financing sources that work specifically with independent sponsor deals.
There are both traditional financing options as well as private lending options (pros and cons to each)
List of Banks Offering Commercial Financing
List of Providers of SBIC Funds
List of Private Credit Funding Sources
- Antares Capital
- CaptialPad (for equity not debt)
- Golub Capital
- MidCap Financial
- Monroe Capital
- Pitchbook lenders list
- Preqin
Sources of debt for independent sponsor model deals
Independent private equity sponsors have options when it comes to raising debt capital. The best fit for your deal depends on many factors. These include deal size, the profile of the target company, and the speed and flexibility you need to close.
Let’s review the most common sources of debt capital for independent sponsors and the pros and cons of each.
Commercial Lenders
Traditional bank commercial lending offers several financing options for M&A.
Many super-regional banks and some larger credit unions support independent sponsor capital needs.
Traditional lenders offer several commercial financing options suitable for independent sponsor deals:
- Term Loans
- Lines of Credit (Revolving Credit Facilities)
- Cash Flow Loans
- Asset-Based Loans (ABL)
Each option carries different terms, rates, and collateral requirements. Usually independent sponsors can borrow at the floating rate plus 3-5% through commercial lenders. Traditional bank lenders factor the target company’s financial health, leverage ratio, and sponsor experience into the terms they offer.
Pros:
- Lower Interest Rates. Traditional bank loans typically carry lower interest rates compared to SBIC funds and private credit.
- Stable, Long-Term Capital. Term loans and revolving credit lines may provide more predictable repayment schedules.
- Regulatory Oversight. Banks are highly regulated and obligated to follow transparent lending practices.
Cons:
- Stricter Underwriting Criteria. Banks often have a lower risk tolerance than many other funding sources. They may have more conservative leverage limits and call for significant equity contributions. They often require a sponsor track record.
- Collateral Requirements. Commercial loans secured by company assets limit flexibility if the asset values fluctuate.
- Slower Approval Process. Traditional banks conduct extensive due diligence and compliance checks. They can take longer to approve loans, slowing down deal timelines.
- Limited Flexibility in Deal Structure. Commercial banks may be less willing to finance highly leveraged deals or to provide flexible or customized terms.
SBIC Funds
Small Business Investment Companies (SBICs) are private investment funds. They’re licensed and regulated by the U.S. Small Business Administration (SBA). SBICs leverage SBA-guaranteed loans to increase their lending capacity. This allows them to offer flexible financing with competitive terms, often through debt or mezzanine financing.
SBIC funds can be a valuable source of debt capital for independent sponsors. Especially for lower middle market M&A deals involving smaller companies.
Independent sponsors can find and apply for SBIC funds through several strategies. Start by browsing the SBA’s SBIC directory to identify potential financing partners.
Networking through industry conferences, groups, and professional connections helps establish SBIC lender relationships.
Financial advisors who specialize in SBIC transactions can help navigate this process.
Pros of SBIC Debt Financing:
- Favorable Terms. SBICs leverage SBA guarantees. This enables competitive interest rates and flexible terms compared to traditional banks. Independent sponsors can often obtain a fixed rate around 12-14%.
- Higher Leverage. SBIC funds may offer higher leverage, which can reduce the equity requirement for a deal.
- Specialized Focus. SBICs focus on lower middle market businesses. This makes them more attuned to the unique needs of these transactions.
Cons of SBIC Debt Financing:
- Regulatory Complexity. SBICs operate under SBA oversight. This can add layers of compliance and due diligence not found with private credit.
- Longer Approval Timelines. The approval process can take longer than traditional bank loans or private credit. This can impact deal speed.
- Limited Availability. Only a select number of private investment funds receive the SBIC designation. This means fewer SBICs are available to lend, and makes the competition for funds stiffer.
Private Credit / Non-Bank Lenders
Private credit is something of a catch-all term. It encompasses a wide array of non-bank financing sources and lending structures.
Private credit and non-bank lenders can offer independent sponsors flexible, customized debt solutions. They can provide faster execution and higher leverage, although at higher costs. These lenders tailor financing structures to match unique deal economics and risk profiles.
Common structures include unitranche loans, mezzanine financing, subordinated debt, and direct lending facilities. Each of these addresses different capital needs and investor risk-return expectations.
Pros:
- Flexibility. Private lenders can structure creative, customized financing solutions. These may better suit the unique profiles of lower middle market M&A deals.
- Speed. Many private lenders can execute deals more quickly than traditional banks or SBICs.
- Higher Leverage. Non-bank lenders can offer more aggressive leverage, reducing the equity contribution required.
Cons:
- Cost. Private credit providers often charge higher interest rates and fees than commercial banks and SBICs.
- Covenants. Private lenders may impose stricter or more complex covenants to mitigate perceived risks.
- Less Regulation. Private credit is less strictly regulated than traditional banking. This can result in less transparency and stability from private lenders.
Don’t Go It Alone
If this all sounds a little overwhelming, you’re not alone. Independent sponsor debt financing is a niche topic that most people never encounter. Even fewer have any need to master it.
Fortunately, there is help available to guide sponsors through the debt financing process. Sponsors who prefer white-glove service can consider partnering with CapitalPad. The CapitalPad team helps independent sponsors close lower middle market M&A deals.
Reach out to CapitalPad to discuss a 1-on-1 partnership. You’ll get help arranging debt financing from ideal funding sources with favorable terms. CapitalPad can also help simplify your equity capital raise, too.
Benefits of Partnering with CapitalPad to Secure Debt Financing
Partnering with CapitalPad to find and secure debt financing lets you leverage our team’s strengths.
- Network – Working with CapitalPad gives your network an instant level up. We connect our partners to quality lenders who understand lower middle market M&A.
- Expertise – Unsure how to structure your deal or which types of debt providers to pursue? Let CapitalPad guide you toward the ideal capital partners and avoid costly missteps.
- Experience – The team at CapitalPad knows how to raise debt capital for acquisitions. We’ve lent our deep experience to help successfully close a multitude of lower middle market M&A deals.
- Bonus: Equity Investors – CapitalPad helps investors get better access to independent sponsor deals. This can lead to a win-win scenario for both parties, sponsors meet capital providers, and investors get access to deal-flow.
How to Choose Your Ideal Funding Source: Key Considerations For Independent Sponsors
Having lots of options can be a blessing and a curse. It can be difficult for independent sponsors to choose which path to pursue. But several key factors can help to guide you toward the ideal sources of debt capital.
How Much Debt the Deal Supports. Compare the deal’s leverage ratio to lender expectations. Traditional commercial lenders usually have less flexibility to support deals with higher leverage.
Debt-to-Equity Mix. Find a debt financing source that allows you to maintain a health debt-to-equity mix. Choose a lender that offers fair terms while keeping the deal financially stable.
Required Level of Due Diligence. Different lenders must undertake different levels of due diligence. Some (especially SBIC funds) require you to share significantly higher amounts of documentation or financials.
Your Experience Level as a Sponsor. Lenders favor independent sponsors who have a history of proven success. Conservative traditional banks may only work with sponsors with a demonstrated track record.
How to Approach Lenders to Secure the Best Terms
Lenders have a finite amount of capital to deploy. Lower middle market M&A financing can be quite competitive.
Independent sponsors should approach lenders strategically.
Begin establishing relationships with lenders well before any deal materializes. Engage with potential debt providers through industry events, networking groups, and direct outreach. This helps lenders become familiar with you before you make any sort of ask.
When a deal opportunity arises, help the lender understand its merits by crafting a compelling investment thesis. Assemble a financing package that outlines the deal’s strategic value, the target company’s growth prospects, projections, risk assessment, your exit strategy, and your background and track record.
Last comes negotiating key terms, such as interest rates, covenants, and repayment structures. Reference the McGuireWoods Independent Sponsor Deal Survey to find today’s standard market terms. That’s a great place to start your negotiation. Then leverage your relationship with the lender and the strength of your financing package to push for competitive rates and flexible terms.
What Next?
The M&A landscape is challenging. But it’s a rewarding path that allows successful sponsors to share in the upside of the business acquisition deals they arrange.
Securing debt financing is a key challenge for independent sponsors. Decide whether to seek debt capital from traditional banks, SBIC funds, or private credit funding sources. Understanding your options and coming to potential lenders well prepared puts you in a stronger position.
Build relationships with potential lenders in advance. Develop a compelling investment thesis for your deal. Highlighting your background and experience can give you a huge advantage.
Fundless sponsor financing is often complicated and competitive. But the resources provided here will help get you started on the journey.
For extra support in navigating the debt financing landscape, consider partnering with CapitalPad. Our team can connect you with the right funding sources. We’ll guide you through the process of securing debt financing for your transaction.
