Corporate Finance & Accounting

Debt-in-Hold (DIP) Financing

What is Debtor in Hold (DIP) financing?

Debtor-in-possession (DIP) financing is a special type of financing for companies that are insolvent. DIP financing is only available to companies that have filed for Chapter 11 bankruptcy protection, which usually occurs when the filing begins. DIP financing is used to facilitate the reorganization of a debtor (the status of a company that has filed for bankruptcy) by allowing it to raise funds to finance its operations while a bankruptcy case is in progress. DIP financing is different from other financing methods because it generally takes precedence over existing debt, equity and other claims.

key takeaways

  • Debtor-in-possession (DIP) financing is the financing of companies in Chapter 11 bankruptcy so that they can continue to operate.
  • Lenders of DIP financing have priority on liens on company assets, ahead of previous lenders.
  • Lenders allow DIP financing because it allows the company to continue operating, restructure and ultimately pay off debt.
  • A term loan is the most common type of financing, and historically it used to be a revolving loan.

Understanding Owned Debtor (DIP) Financing

Because Chapter 11 favors corporate restructuring rather than liquidation, filing for protection can provide an important lifeline for distressed companies that need financing. In debtor-in-possession (DIP) financing, the court must approve a financing plan consistent with the protections granted to the business. The lender’s oversight of the loan also requires court approval and protection. If the financing is approved, the business will have the liquidity it needs to stay afloat.

When a company is able to obtain DIP financing, it lets suppliers, suppliers and customers know that the debtor will be able to continue operating, provide services and pay for goods and services during the restructuring. If a lender, after examining its financials, finds that the company is creditworthy, it is only natural that the market will come to the same conclusion.

Two bankrupt U.S. automakers, General Motors and Chrysler, were the beneficiaries of debtor-in-possession (DIP) financing as part of the Great Recession.

Obtaining Debt-in-Place (DIP) Financing

DIP financing typically occurs at the beginning of the bankruptcy filing process, but often struggling companies that may benefit from court protection delay filing because they cannot accept their reality. This indecision and procrastination can waste valuable time as the DIP financing process tends to be lengthy.

seniority

Once a company enters Chapter 11 bankruptcy and finds a willing lender, it must obtain approval from the bankruptcy court. Lending under bankruptcy law has provided lenders with much-needed comfort in financing financially troubled companies. DIP financing lenders will prioritize assets in the event of company liquidation, authorized budgets, market rates or premium rates, and any other comfort measures the court or lender deems worthy of inclusion. Current lenders often have to agree to these terms, especially when it comes to asset liens taking a back seat.

authorized budget

Approved budgets are an important aspect of DIP financing. A “DIP Budget” can include projections of a company’s revenue, expenses, net cash flow, and outflows over a rolling period. It must also take into account forecasted timing of payments to suppliers, professional fees, seasonal changes in revenue, and any capital expenditures. Once the DIP budget is agreed upon, the parties will agree on the size and structure of the credit facility or loan. This is just part of the negotiation and work required to secure DIP financing.

Loan Type

DIP financing is usually provided through term loans. Such loans are fully funded throughout the bankruptcy process, which means higher interest costs for borrowers. Previously, revolving credit was the most common method, where borrowers could draw down the loan and repay it as needed; just like a credit card. This allows for greater flexibility and therefore the ability to keep interest costs low as the borrower can actively manage the loan amount borrowed.

Related Posts

1 of 2,105

Leave A Reply

Your email address will not be published.