The terms of the investment banking engagement letter are critical to the protection of the issuer in any deal.  Often overlooked, however, is that the investment banker’s fee is often protected or lost by those same terms – particularly in small deals for micro-cap or under capitalized companies.  Generally, an investment bank charges two different fees: the retainer fee, which has to be paid as soon as the banker starts his assignment, and the success fee, which has to be paid when the deal is closed.

Although the investment banker could waive this retainer fee in case of a surefire deal, it is usually a lump sum and oftentimes it is paid on a monthly basis. It can also be paid out at the beginning and might eventually be credited against the success fee.

The success fee, however, is most commonly a percentage of the final deal. Depending on the bank philosophy, the fee can be declining – e.g. the Lehman system – or the opposite, progressive, which can better incentivize the banker not to hurry in the transaction and motivate him to close a deal that exceeds the initial goals.

The time to pay the success fee is also a key point to be determined by the parties. It is evident that the bank wants to be paid at deal close and it should not be a problem with a cash sale. It can be much more complicated when the deal involve other payment options such as capital adjustments or deferred payments.

Often with smaller companies, there is a primary secured lender that has significant control over the issuer.  When an investment banker is successful, and raises debt or equity, (or some combination thereof) the bank and banker are entitled to this fee.  With a secured lender that controls the issuer in some form, or has the ability to foreclose on the assets, the investment banker is at risk if the bank is not paid at closing – if the deal is funded and sometimes thereafter the issuer faces economic trouble, the investment banker’s success fee can be swallowed up by a bankruptcy or asset foreclosure. 

Thus, we propose that where practical, and where leverage allows, the investment bank insists that the secured lender or those lenders with the ability to foreclose and take the issuers assets, either indemnify, or better yet, guarantee the investment banker’s fee in the event that the issuer cannot pay it due to the actions taken by the lender.


Tags: Joseph Pastore, Security