Initially seeded with state money seven years ago to provide financing to growing Michigan-based businesses, Grow Michigan LLC expects to begin seeking investors for a second fund totaling nearly $60 million.
The provider of mezzanine and subordinated debt will solicit investors this summer for Grow Michigan II, which aims to raise $50 million to match the nearly $9.6 million equity investment the Michigan Strategic Fund board approved last fall when authorizing a second fund.
CEO Patrick O’Keefe expects the current Grow Michigan I fund will exhaust its more than $12 million in remaining available capital by the end of the summer with deals presently in the pipeline.
Formation of Grow Michigan II follows “high” market reception for the first fund, which is set to expire at the end of 2019, O’Keefe said.
“We getting some deal flow and people are figuring out how to use it. It’s getting good reception in the marketplace,” said O’Keefe, who hopes to enlist many of the 16 banks that supported Grow Michigan I as investors in the second fund.
“We’re hopeful that we won’t have the same learning curve from the first fund because people who invested in it know how it operates and have seen how it operates, so hopefully they’ll sign up quicker,” he said. “I’m an optimist by nature, but people have seen the success we’ve had and understand that it’s a good product that helps shore up credits that they normally might not make.”
In addition to the 16 banks that invested in Grow Michigan I, there are another six banks “that have not been in the fund that are interested in using” the second fund, O’Keefe said. “We’ll be knocking on their doors this time, too.”
A selling point for banks to invest in Grow Michigan II includes their ability to use the investments to meet obligations under the federal Community Reinvestment Act. Banks that have invested in Grow Michigan previously “view this as a better alternative than maybe just writing a charitable contribution because we preserve their capital and they get a return on it,” O’Keefe said.
Banks also can use Grow Michigan as a business development tool to help commercial clients secure funding for expansions, then work with the company at a later date to refinance the debt, he said.
“Any tool that they can have in this competitive financing market to help make a deal is always good,” O’Keefe said.
Grow Michigan offers credit beyond what a prospective borrower’s senior lender will provide. A typical deal for Grow Michigan involves a borrower that has landed a major contract or has an opportunity to grow after landing a major contract and needs to quickly expand capacity. However, the borrower may lack sufficient collateral or existing cash flow required for a bank to back a loan at that time. Banks can refer those prospects to Grow Michigan for subordinated debt.
Grow Michigan’s clients typically are manufacturers. Recent borrowers include a specialty tool maker that produces prototype parts, a heavy equipment maker, and a producer of pallets, O’Keefe said.
The Michigan Strategic Fund board last October authorized formation of a second Grow Michigan fund for state-based companies with annual revenues of $3 million to $75 million that have strong growth potential. The fund will generally provide loans of $1 million to $3 million for three- to five-year terms, but can go up to $5 million, according to a staff memo to the MSF board for the October meeting.
The first Grow Michigan fund initially received $7 million in seed capital from the state seven years ago and subsequently raised $42.7 million from investor banks. The MSF board in December 2017 decided to extend Grow Michigan for two years to the end of 2019, and authorized another $10 million in funding.
Since 2012, Grow Michigan has lent some $65 million in subordinated debt through 32 loans. Deals have come from across the Lower Peninsula, and mostly from the manufacturing sector, O’Keefe said. Borrowers were able to subsequently secure more than $300 million in senior debt and equity investments.
The MSF board originally created Grow Michigan in 2012 “to provide economically competitive growth and acquisition capital to small businesses shut out of that market due to scale (loan size too small to be profitable for the lender),” Chris Cook, director of capital access for the Michigan Economic Development Corp., wrote in the October 2018 memo.
Borrowers at the time had redeemed $22.8 million of the Grow Michigan debt, “with a meaningful portion of the recycled funding being used to support new financing,” according to Cook’s memo.
The original proposal for a mezzanine fund followed a 2008 MEDC study of the state banking environment “that identified a material weakness which exists in nearly all capital markets and which has been addressed successfully in a number of other states” through a similar mezzanine fund, Cook wrote.
Despite the first fund’s success and the state’s economic recovery from the deep recession of 2008-2010, there remains a lack of mezzanine-style capital for growing second-stage businesses in Michigan, O’Keefe said.
“In the branch that we play in, I would say that there’s almost no competing product,” he said.Grow Michigan eyes $50M in private investment for second mezz fund