Mezzanine fund

A mezzanine fund is a type of private equity or merchant banking fund.

A typical mezzanine investment consists of a debt or debt-like instrument, paired with an equity “sweetener.” The equity component of the investment gives the mezzanine lender upside potential, while the debt component -- which generates steady interest payments and ranks senior to the company's common stock -- provides a measure of downside risk protection. The most common formulation is a note which may provide for both current-pay cash interest and pay-in-kind (PIK) interest, paired with warrants to acquire stock of the borrower. Mezzanine investments can be made using other types of securities as well, such as with preferred stock in place of a debt instrument.

Difference between a mezzanine fund and a typical private equity fund

With a typical private equity fund, sometimes called a "buyout fund," returns on the fund's investments are only realized when the investments are sold. This entails no steady cash flow to investors. Since mezzanine funds contain debt, or debt-like instruments, those receiving the capital investment are compelled to make interest payments, therefore generating significant current income for investors.