Lesson 3.2 described the parts of a loan's price one at a time. Investors and deal teams want a single number that combines them: the all-in yield, the lender's total expected annual return from interest plus any upfront discount or fees.
All-in yield is how lenders compare deals with different mixes of spread and OID. It also shows up in fund reports, investment committee memos and valuation work. In this lesson you will calculate it for one loan, refine the answer, and test what happens when rates fall or the loan is repaid early.
All figures in this lesson are illustrative. They are chosen to keep the arithmetic simple, not to describe current market pricing.
The deal
A direct lending fund provides a unitranche loan to Alder Ridge Logistics, a fictional sponsor-backed distribution company. The key terms:
| Term | Value |
|---|---|
| Facility | $100 million unitranche term loan |
| Base rate | SOFR, currently 4.00% |
| Spread | 525 bps (5.25%) |
| SOFR floor | 1.00% |
| Issue price | 98 (2 points of OID) |
| Call protection | 102 in year 1, 101 in year 2, par after |
| Assumed life | 3 years |
The assumed life needs explaining. The loan's legal maturity may be five years or more, but most private loans are repaid early, often when the company is sold or refinanced. So the market usually assumes a shorter life when spreading OID. Three years is a common convention for this purpose. It is an assumption, not a forecast.
We also assume SOFR stays at 4.00% for the whole life of the loan. Nobody knows future rates, so a flat assumption keeps the comparison clean.
Step 1: the market shorthand
The quick method adds three pieces:
- The base rate (SOFR, or the floor if higher).
- The spread.
- The OID spread evenly over the assumed life: OID points ÷ assumed life in years.
| Component | Working | Per year |
|---|---|---|
| SOFR | Given | 4.00% |
| Spread | 525 bps | 5.25% |
| OID | 2 points ÷ 3 years | 0.67% |
| All-in yield | 4.00% + 5.25% + 0.67% | 9.92% |
The loan yields about 9.9%. The first two lines together, 9.25%, are the coupon: the cash interest rate the borrower pays on the face amount. The OID adds about two-thirds of a percent a year on top.
Comparing two offers
The shorthand is most useful for comparing offers that mix spread and OID differently. Suppose a rival lender offers Alder Ridge SOFR + 575 bps with no OID, lending at par (100). SOFR is 4.00% in both cases.
| Offer | Spread | OID per year | All-in yield |
|---|---|---|---|
| Our fund: 525 bps at 98 | 5.25% | 2 ÷ 3 = 0.67% | 9.92% |
| Rival: 575 bps at 100 | 5.75% | 0.00% | 9.75% |
The rival's spread is higher, but our fund's offer yields more over three years once the OID is counted. The borrower may like our offer as well: its cash interest bill is lower every quarter, and the OID is a one-off cost agreed at the start.
Step 2: a more precise answer
The shorthand has a flaw. It measures everything against $100 of face value. But the lender only paid out $98. The borrower pays interest on the full $100 million, so the return on the lender's actual cash is higher.
Two adjustments fix this:
- Coupon on cash invested: 9.25% ÷ 0.98 = 9.44%.
- OID on cash invested: the lender gains $2 on each $98 it lends, spread over three years: 2 ÷ 98 ÷ 3 = 0.68% a year.
| Component | Working | Per year |
|---|---|---|
| Coupon on cash lent | (4.00% + 5.25%) ÷ 0.98 | 9.44% |
| OID on cash lent | 2 ÷ 98 ÷ 3 | 0.68% |
| Refined all-in yield | 9.44% + 0.68% | 10.12% |
In dollars, the result is the same:
| Item | Amount |
|---|---|
| Cash lent | $98.0 million |
| Annual cash interest ($100m × 9.25%) | $9.25 million |
| OID earned per year ($2m ÷ 3) | $0.67 million |
| Total income per year | $9.92 million |
| Income ÷ cash lent | ≈ 10.1% |
So the more precise figure is about 10.1%, a little above the shorthand's 9.9%. A full yield-to-maturity calculation, which also allows for the timing of each cash flow, lands close to this, just over 10%.
Why use the shorthand at all?
If the refined number is more accurate, why do people still quote 9.9%?
- Speed. You can do it in your head during a meeting.
- Comparability. Everyone uses the same convention, so two deals priced the same way can be compared on the same basis.
- False precision. The assumed life and flat SOFR are guesses. Refining the arithmetic doesn't remove the bigger uncertainty in those assumptions.
The key is to know which method a number uses and not to mix them when comparing deals.
What if SOFR falls?
Because the loan floats, the lender's yield moves with SOFR. The floor limits how far it can fall. Using the shorthand, and assuming each new SOFR level holds for the full three years:
| Scenario | SOFR | Base rate used | + Spread | + OID | All-in yield |
|---|---|---|---|---|---|
| Base case | 4.00% | 4.00% | 5.25% | 0.67% | 9.92% |
| SOFR falls to 3.00% | 3.00% | 3.00% | 5.25% | 0.67% | 8.92% |
| SOFR falls to 0.50% | 0.50% | 1.00% | 5.25% | 0.67% | 6.92% |
| Same, if there were no floor | 0.50% | 0.50% | 5.25% | 0.67% | 6.42% |
- At 3.00%, SOFR is still above the 1.00% floor. The floor does not bind (it has no effect), and the yield falls one-for-one with SOFR.
- At 0.50%, SOFR is below the floor. The floor binds and the loan uses 1.00% as its base rate. The lender earns 6.92% instead of 6.42%, an extra 0.50% a year.
The spread and OID don't change in any scenario. They are fixed at signing. Only the base rate moves.
What if the loan is repaid early?
Suppose Alder Ridge is sold after one year and repays the loan in full at the end of year 1. Under the call protection, it must pay 102, a 2% premium.
Two things happen to the lender's yield:
- The OID is earned faster. The 2 points are now earned over one year instead of three.
- The premium adds to the return. The lender receives an extra 2 points, also over one year.
Using the shorthand:
| Component | Held 3 years | Repaid end of year 1 at 102 |
|---|---|---|
| SOFR | 4.00% | 4.00% |
| Spread | 5.25% | 5.25% |
| OID per year | 2 ÷ 3 = 0.67% | 2 ÷ 1 = 2.00% |
| Premium per year | None | 2 ÷ 1 = 2.00% |
| All-in yield | 9.92% | 13.25% |
A quick cash check on the $98 million lent: the lender receives $9.25 million of interest, $100 million of principal and a $2 million premium, $111.25 million in total. That is a gain of $13.25 million on $98 million, or about 13.5% for the year.
This is why lenders like OID and call protection. Early repayment usually means the lender's money comes back sooner, so it has to find a new loan to invest in. OID and call protection make sure that when this happens, the lender is paid more for its trouble. It also explains why reported yields on a portfolio can jump in periods when many loans are repaid.
Key terms
- All-in yield: the lender's total expected annual return, combining the base rate, spread and upfront discount or fees.
- Coupon: the cash interest rate on the loan's face amount (base rate + spread).
- Assumed life: the period over which OID is spread in yield calculations, usually shorter than legal maturity.
- Legal maturity: the date by which the loan must be repaid in full.
- Bind: a floor binds when the base rate falls below it, so the floor rate is used instead.
- Yield to maturity: a full calculation of return that allows for the timing of every cash flow.
Key takeaways
- The shorthand all-in yield is base rate + spread + (OID points ÷ assumed life): here 4.00% + 5.25% + 0.67% ≈ 9.9%.
- Measuring returns against the cash actually lent ($98, not $100) gives a slightly higher figure, about 10.1%.
- The shorthand survives because it is fast and consistent; always know which method a figure uses.
- A floor only changes the yield when SOFR falls below it.
- Early repayment raises the lender's yield, because OID is earned faster and a prepayment premium may apply.
This lesson is for educational purposes only and is not investment advice.