The buyer is requesting a seller note, but their senior bank lender is demanding we sign a strict subordination agreement that blocks our interest payments if the company violates its bank covenants. How do we negotiate this to protect our cash flow?

Question

Tyler Smith · Accepted Answer

When carrying a seller note, the buyer's senior lender will always demand a subordination agreement. Your goal is to prevent a complete freeze on your payments if the buyer hits a minor financial bump. You must negotiate a payment blockage clause that limits the bank's ability to halt your subordinated payments.

First, limit the stoppage. Negotiate a maximum blockage period, such as one hundred and eighty days, and specify that the bank can only invoke this blockage once in any twelve-month period. If the buyer cures the default or the blockage period expires, your payments must resume immediately, including all missed catch-up payments.

Second, define what triggers a block. Do not allow simple covenant defaults, like failing to deliver financial statements on time, to freeze your money. Only a payment default on the senior debt should trigger a payment stoppage.

Third, establish clear visibility. Insist on receiving the same monthly financial reports the buyer sends to the senior lender. Use your knowledge of the business and your EOS® training to monitor their weekly Scorecard numbers. If you see their key measurables trending downward, you can proactively address operational issues with the new owner before a covenant breach occurs. This active monitoring protects your capital far better than passive waiting.