Bridge Financing Definition, How It Works & Examples
Updated on April 26, 2023 | 4 min. read
KEY TAKEAWAYS
● Bridge financing is one of the many short-term financing options available for businesses.
● It is used by businesses to keep their finances in working order until more long-term funding is available.
What Is Bridge Financing?
Bridge financing is a short-term financing option. It is often in the form of what's known as a bridge loan. It is used by businesses to solidify their position until they can arrange a longer-term financing option. Bridge financing is used to fund the company’s short-term liabilities or projects before income or long term financing are expected.
Bridge financing tends to come from an investment bank or a firm that specializes in venture capital. It will come in the form of an equity investment or a loan. Or it may include an exchange on an equity for capital basis instead of the standard option of a loan.
Bridge financing can also be used for initial public offerings (IPOs).
How Bridge Financing Works
Bridge financing covers the gap between a business’ finances running short and getting a new infusion of capital.
There are a number of different ways that a business can arrange bridge financing. The option that a company chooses will often depend on the circumstances and the number of options that are available to them.
If a company is in a solid position but just needs an extra boost to get them through, then it will have a fair amount of options available. This is in comparison to a company that is facing a bigger issue. If a company is on the brink of collapse, then most providers will not want to issue a loan. And any that do will most likely do so at a very high-interest rate.
Why Is Bridge Financing Important?
Bridge financing is a way for businesses to bridge the gap in a financial sense. If a company is set to run out of money at a certain point, it can use a bridge loan to tide them over until its next expected infusion of funds. It is a type of financing that tends to be used to make sure a company can fulfill its short-term working capital needs.
Bridge Financing Types
There are three options for bridge financing. They are:
● Debt bridge financing
● Equity bridge financing
● IPO bridge financing
Let’s take a closer look at each of these three options.
Debt Bridge Financing
The first option of financing is through debt. This is a high interest, short-term infusion of capital that is known as a bridge loan. A company that is looking to get a bridge loan would need to advance with caution. This is because the interest rates can be extremely high. Which can plunge your business into further financial struggles later on.
Equity Bridge Financing
The next option is equity financing. This is useful if you don't want to take on debt with high-interest rates. It works by seeking a venture capital firm that can offer bridge financing that will provide your company with needed capital.
In this case, the company could potentially offer ownership equity to the venture capital firm. This is in exchange for financing for an agreed-upon amount of time. This option may last several months to a year.
For the venture capital firm, they can find value if they believe that the company that needs financing will become successful in the future. This would mean the value of their stake in the company would increase.
IPO Bridge Financing
In the world of investment banking, bridge financing is a method used by companies before their initial public offering. This type of financing is designed to cover the expenses that are associated with the IPO. It tends to be short-term in nature. Once the IPO is completed, the capital raised from the offering pays off the liabilities of the loan.
The funds from IPO bridge financing tend to be supplied by an investment bank that is underwriting the new issue. As a form of payment for this financing, the company will give a number of shares to the underwriters. This would be at a discount price in order to offset the loan.
Example of Bridge Financing
Let’s say Company X needs $10 million in financing to expand its business. They currently have $6 million but need the remaining $4 million by the end of the month. In order to fulfill their needs, they could take out a $4 million bridge loan to bridge the financial gap.
Once their business has grown thanks to the new capital, they can use the revenue generated through expanded business operations to pay back the loan.
Summary
Bridge financing is a great way to get short-term capital. However, business owners need to be aware that the interest rates for the loans can be extremely high. This could potentially put their business into more financial trouble.
FAQs on Bridge Financing
