Bridge lending helps bridge the financial divide

Bridge ( bridge ) translated from English – a bridge. Creative bankers did not accidentally come up with such a name for a special type of short-term lending.

In fact , a bridge loan is a kind of bridge that gives a businessman (sometimes individuals) a chance to overcome the barrier of a catastrophic lack of finance and gain access to cash flows in the form of investments and long-term bank loans. 

What it is

A short-term, usually up to 1 year, loan for a fairly substantial amount, which allows the borrower to promptly resolve urgent issues (purchase of equipment, start production, resolve bureaucratic formalities) and prepare the basis for attracting permanent investments, as well as confirm their solvency.

Typically, the interest rate on such banking products is quite high. This is not surprising, since the credit institution exposes itself to increased risks by entering into such a transaction. At this stage, the position of the borrower is very unstable, and the probability of bankruptcy is higher than that of the average bank customers.

Most often, developers and start -ups (initiators of risky, but potentially highly profitable businesses) apply for bridge loans.

Construction is a very costly undertaking. Often, when erecting a multi-storey building, we are talking about amounts over a billion rubles. In 2019, 214-FZ , which regulates shared construction in Russia, was amended. Now developers cannot use the money of equity holders until the apartments are transferred to them.

Financing of construction works is carried out through a special bank account. Before you start pouring the foundation, you need to implement a lot of preparatory activities: the purchase of land, the development of project documentation and the passage of various examinations. Until they are completed, the bank will not undertake to finance the project. At the same time, the cost of preparatory work can reach unbearable sizes for the developer.

The way out of this impasse is to apply for a bridge loan. A short-term loan will help solve urgent current problems and open the way to full-fledged interaction with credit institutions and investors.

Often, companies and individuals who have received this type of loan try to pay it off ahead of schedule, gaining access to other sources of financing.

Who can provide a bridge loan

It is most reasonable to apply for the provision of such a banking product to the credit institution that previously provided you with loans. Although a bridge loan is an urgent measure, most banks will conduct a thorough check before it is approved if the applicant has not managed to establish himself as a reliable payer. Increased risks are leveled by a more thorough check of the borrower and higher interest rates.

There is a special type of financial organization that specializes in bridge lending for precisely such high-risk events – venture funds . As a rule, they are the ones who invest in startups.

Such a fund is a public or private organization that raises money from various investors to simultaneously finance several risky projects with a high potential for profit.

In their business model, they pre-determine the probability of failure of some startups. After all, it often happens that the income from a single successful project will cover the costs of all the others and give a significant profit.

Construction companies, of course, are not startups. In the case of shared construction, banks neutralize their risks through collateral. Usually it is the land acquired by the company in a mortgage.

In addition, the borrower can “tempt” the lender with another benefit – the obligation to take the main loan for construction after the end of the preparatory activities. And in this case we are talking about significant amounts, the percentage of which can provide the lender with a constant cash flow for a long time.

In other words, bridge lending allows the developer to share the initial risks with the bank, and the latter sees this as a way to get a promising client.

Any financial institution can issue such a loan. But the largest banks have more experience, a margin of safety and, most importantly, competent specialists who will help to detect weaknesses in a business project in advance. Many entrepreneurs specifically turn to them to get an expert assessment.

However, such scrupulousness can be interpreted as a minus. More often than not, business owners who submit applications consider their project justified and calculated in advance. In this case, it makes sense to contact a small bank that will not spend a long time checking. At the same time, you need to be prepared for the fact that the conditions will be less favorable, for example, a higher interest rate or a limited amount.

Who and in what case can use

Bridge loans have a fairly large pool of potential customers. Short-term loans are popular with both commercial companies and individuals.

Legal entities

In addition to the developers and start-ups already discussed above, commercial organizations that intend to carry out an IPO, that is, issue shares on the stock exchange for the first time, often resort to this type of loans. In this case, when concluding a loan agreement, the company agrees with the bank to issue debt notes secured by tangible assets or capital.

At the time of the IPO, these notes are converted into shares, that is, the creditor automatically becomes a shareholder of the enterprise and can count on part of the profit in the form of dividends. In addition, as a rule, immediately after the issue, the value of securities increases, and this can also be a plus for the investor.

Another situation in which a company may turn to bridge financing may be the need for an urgent replacement of equipment without stopping the production process.

The loan is secured by the old property. With the money received, the company purchases new equipment, puts it into operation and immediately sells worn-out equipment. The proceeds from the sale of funds allow at least partially repay the loan.

Individuals

Ordinary people can also benefit from such a banking product, for example, when expanding housing.

Imagine that you have a single apartment that you would like to sell and use the proceeds as a down payment when buying a new one. But obtaining a mortgage is a very long process. It is almost impossible to simultaneously turn two transactions (in case the buyer of your home also resorts to mortgage lending). A reasonable question arises: where to live after the sale of the old and before buying a new apartment?

The way out of this impasse is to take a short-term loan. The logic here is the same as for an enterprise replacing old equipment. You get a bridge loan secured by old housing, and you buy new real estate with borrowed money. Then you move and without fuss, under the control of the bank, you start selling your old home. But you should not delay this process – all this time you will have to pay high interest.

With the proceeds from the sale, you come to the bank and immediately reissue a bridge loan into a mortgage secured by a new apartment

Advantages and disadvantages

For all their usefulness, bridge loans have a number of disadvantages, due to which clients of financial institutions often refuse such offers.

For the lender

Advantages:

• a tempting prospect to establish a long-term financial relationship with a profitable client;
• the opportunity to obtain the status of a shareholder of the company and participate in its development.

There is only one drawback, but a significant one – an increased risk of losing money in the event of a client’s bankruptcy.

For the borrower

The main advantage of such a loan is that it is an effective way out of the impasse, clearly articulated by Uncle Fyodor from the cartoon: “In order to sell something unnecessary, you must first buy something unnecessary. And we don’t have any money!”

Minuses:

• very unfavorable conditions – high interest rates, restrictions on the maximum loan amount (no more than 70% of the market value of the collateral), a short term, which means huge monthly payments;
• for an enterprise that made it possible for the bank to become a shareholder – the likelihood of becoming dependent on the decisions of the management of the credit institution.

Therefore, it is better to take a cash loan at a low interest rate in Sovcom bank, without binding yourself with onerous obligations. Below is a convenient application form.