HMV's lenders to take 5% stake in return for refinancing deal that will secure its short-term future

Beleaguered HMV has been thrown a £220m lifeline by its state-owned lenders that will see them take a 5% stake in the company.

The retailer, which has issued four profit warnings this year, agreed a refinancing deal with its banks, Royal Bank of Scotland and Lloyds Banking Group, after months of talks.

The agreement secures HMV's short-term future, and effectively gives UK taxpapers a stake in the struggling high-street chain. City analysts warned, though, that the agreement comes at a high price – as the interest rate on part of the loan could hit 14%.

Poor sales and ballooning debts of £170m forced HMV to sell its book chain Waterstone's to Alexander Mamut, a Russian billionaire, for £53m last month. By pledging to use the money to pay down debt, chief executive Simon Fox persuaded the banks to agree the refinancing.

Under the plan, warrants will be issued to the banks which will represent 5% of HMV's share capital when converted into shares after 30 June 2012.

The restructuring gives HMV two years to revamp the business and get sales back on track. Fox is focusing on building technology sales, including headphones, iPods and tablet computers such as the iPad. He is also turning the company into a multimedia group that hosts concerts and opens cinemas with Curzon.

The new £220m credit facility will replace HMV's previous bank facility of £240m. It comprises loans worth £70m and £90m and a £60m revolving credit facility, all of which mature on 30 September 2013. Interest is payable at 4% above Libor, the interest rate at which banks lend to each other.

The company is blocked from paying dividends while the £90m loan is outstanding, and must also pay an exit fee on repayment. The interest rate on this exit fee will rise to 14% if it has not been repaid by 1 January 2013.

"The banks clearly have the company over a barrel," said Kate Calvert, retail analyst at Seymour Pierce. "We are maintaining our Sell recommendation as we continue to believe that the business is a value trap and the Waterstone's deal is expected to be dilutive to earnings."

The structure of the loan deal should encourage HMV to repay its debts quickly. John Stevenson of Peel Hunt said the deal would allow its management to focus on running the company again, but warned: "We fear this in an interim pause before the next step down."

Joshua Raymond, market strategist at City Index, said that "the life support machine is still on for the struggling retailer".