What is a Delayed Draw Term Loan?
A delayed draw term loan (DDTL) is a special feature in a term loan that stipulates that the borrower can withdraw predefined amounts of the total pre-approved amount of a term loan at contractual times. This special feature is included as a provision in the borrower agreement. Lenders may offer this feature to high credit quality borrowers. Often, a delayed draw term loan is included in contractual loan deals for businesses who use the loan proceeds as financing for future acquisitions or expansion.
How a Delayed Draw Term Loan Works
A delayed draw term loan requires that special provisions be added to the borrowing terms of a lending agreement. For example, at the origination of the loan, the lender and borrower may agree to the terms that the borrower may take out $1 million every quarter out of a loan valued at a total of $10 million. Such provisions allow a lender to better manage its cash requirements. For the borrower, a delayed draw term loan offers a limit to how much it can draw on a loan, which can act as a governor to spending, thereby reducing its debt burden and interest payments. At the same time, the delayed draw gives the borrower the flexibility of knowing that it will have a guaranteed, periodic cash infusion.
Delayed draw term loans have traditionally been seen in the middle market as part of non-syndicated leveraged loans. Since 2017, however, DDTLs have seen increased use in the larger, broadly syndicated leveraged loan market in loans worth several hundred million dollars.
Delayed Draw Term Loan Provisions
Generally, delayed draw term loan provisions are included in institutional lending deals involving more substantial payouts than consumer loans, with greater complexity and maintenance. These types of loans can have complicated structures and terms. They are most commonly offered to businesses with high credit ratings. They usually come with more favorable interest rates for the borrower than other credit options.
Important: Once provided by middle market lenders via non-syndicated leveraged loans, delayed draw term loan terms have become popular in larger, broadly syndicated leveraged loans.
Delayed Draw Term Loan Requirements
Delayed draw term loans can be structured in a number of ways. They may be part of a single lending agreement between a financial institution and a business or they may be included as part of a syndicated loan deal. In any situation, there are different types of contractual caveats the borrower must meet.
When structuring the terms of a delayed draw term loan, underwriters may consider such factors as maintenance of cash levels, revenue growth, and earnings projections. Often a business may be required to maintain a certain level of cash on hand or report a minimum quick ratio factor for term loan installments to be dispersed over various time periods. Liquidity-focused factors limit the borrower from performing some particular acts, such as overleveraging, but they are still considered a flexible feature for a term loan.
In some cases, the terms of the delayed installment payouts may be based on milestones achieved by the company. These factors may involve a sales growth requirement such as meeting a specified number of unit sales by a specific time. Other financial milestones may also be considered, such as earnings growth. For example, a company may be required to meet or exceed a certain level of earnings in each quarter of its fiscal year in order to receive the payouts from a delayed term loan.