What is Senior Debt?
Senior debt refers to the level of priority a loan repayment holds. This type of debt has priority over other repayments meaning that it is borrowed money which a company must first repay if it goes out of business. Senior debt has priority over all other classes of debt and other classes of equity. Subsequently, if a company is suffering financial difficulties or liquidation, these debt holders will have a priority claim.
Which Loans are Classified As Senior Debt?
The majority of secure loans would be classified as senior debt. Loans taken out from banks, other financial institutions and high-grade debt securities including mortgage bonds would all be considered senior debt.
Subsequently, this type of debt is considered “low-risk” from a lender perspective. These loans are often issued by large and secure financial institutions with pooled capital. Due to this, these loans typically offers a lower interest rate than subordinate loans.
Order of Priorities
Each type of financial assistance has a different priority level when being repaid. Senior debt takes priority over other borrowed money if a company enters financial problems and is the first tier of liabilities for a company. They are considered top priority as they are usually secured against collateral. Junior or subordinated debt falls lower on the list meaning that a company has less pressure to pay back these loans. However, this comes at the price of higher interest rates. Preferred stockholders are lower still and common stockholders are last on the list.
Junior Debt
Junior debt, also known as subordinate debt, takes a lower priority position because of their relative high risk. Yet, they generally pay greater yields than other loans. As such, it is riskier for an investor to own but can deliver a higher rate of return. These creditors have access to a company’s assets only after the senior debt has been repaid.
How Does Senior Debt Differ from Mezzanine Finance?
Mezzanine finance is a type of junior debt meaning is it lower in the list of priorities when paying off debt. This is compensated by the high potential that they offer lenders. Mezzanine loans are typically high-yield and high-risk and combine debt and equity.
Octagon Capital allows you to take out as much as £25 million in a mezzanine finance loan, much higher than you would be able to obtain financial institutions or banks. However, to balance this out, a lender also takes a stake of the business due to its high potential. Unlike senior debt, mezzanine finance is not secured against any form of collateral.
