The buyer is asking us to carry a twenty percent seller note to close the funding gap in their senior debt facility, but we do not want to act as a secondary bank. How do we structure seller financing to ensure we are protected, prioritized in the capital stack, and compensated for the risk?

Question

Tyler Smith · Accepted Answer

When a buyer asks you to carry a twenty percent seller note to close the gap in their capital structure, you are taking on equity-like risk for debt-like returns. If you must accept seller financing to get the deal done, you must structure the note to protect your cash and prioritize your position.

Start with subordination terms. The buyer's senior lender will insist that your seller note is subordinated to their bank debt. You must negotiate the definition of default and payment blockage periods. Ensure that the bank can only block payments on your seller note during a covenant default, and limit any payment blockage period to a maximum of ninety to one hundred and twenty days.

Next, negotiate a robust interest rate that reflects your risk. If senior debt is at eight percent, your subordinated seller note should carry a double-digit interest rate, with a portion paid in cash monthly and the rest compounding as payment-in-kind interest.

Finally, tie the seller note to operational governance. Include covenants that prevent the buyer from taking distributions, raising executive salaries, or taking on additional debt while your note is outstanding. Use your Accountability Chart to ensure that the people running the business post-close are competent. If the business falls below certain operational metrics on its quarterly scorecard, you must have the right to step back in or accelerate the note.