We are carrying a significant seller note for the transaction, but the buyer's holding company has no real assets. How do we structure the security agreements and covenants to prevent getting wiped out if they default?

Question

Tyler Smith · Accepted Answer

When carrying a seller note, you cannot rely on a shell holding company as your sole guarantor. If the operating company fails or is stripped of assets, your note becomes worthless. Under the IVS 105 Cost and Market approaches, the value of your debt instrument depends entirely on the strength of its underlying collateral and covenant structures.

To secure your position, demand a first-priority security interest in the assets of the operating business, secondary only to the primary bank lender. You must secure a stock pledge agreement. This gives you the right to reclaim ownership of the company shares in the event of an uncured payment default. Do not let the buyer convince you this is unworkable; it is standard practice for significant seller financing.

Additionally, negotiate a personal guarantee from the private equity sponsor or the individual buyers, backed by their personal assets. If they refuse, you can introduce financial covenants into the note agreement itself. These covenants should mimic the primary bank's restrictions, including limits on executive compensation, prohibitions on dividend distributions, and strict debt service coverage ratios.

In your EOS framework, treat the monitoring of these covenants as a quarterly Rock for your remaining leadership team. If the buyer breaches these ratios, it must trigger an immediate acceleration of the note or an increase in the interest rate. This ensures you have legal teeth before the business deteriorates. Never accept a simple corporate guarantee from an empty entity; demand real collateral and clear default pathways.