How do Mezz funds make $$$?
They, as the buyout funds, will probably raise a certain amount of money (equity) from institutional investors and provide (invest) that money to PE funds who want to leverage even further their equity returns (above what they would get in a senior debt only deal). So the mezz fund is nothing more than a lender to these guys. For this service, the mezz fund receives an annual interest of ~10%-15% (obviously can vary), which is much higher than what senior lenders get, due to increased risk, and at the end the principal back. For sake of simplicity, im assuming the annual interest is cash-pay, not PIK, and the mezz tranche doesnt include warrants. If my understanding is correct, 10-15% return is pretty low compared to PE funds - in other words IS THAT IT? OR do mezz funds themselves lever their funds, to increase those mediocre returns??
(By leveraging their funds I mean as an example: $1bn mezz fund, say its levered 4x, that allows the fund to lend $4bn, instead of $1bn.)
and now the million $ question: If they do lever their funds, where are they getting this leverage (debt) from, and at what rate? - presumably the interest they pay on this leverage must be lower than what they are charging the company, right? And how can someone lend money to a mezz fund, when the fund itself doesnt own anything that can serve as a collateral for the lender? And why would a lender want to lend money to a mezz fund and not lend it directly to the company, who they can charge a higher interest than what they would get from a mezz fund?