The buyer is asking us to carry a seller note for twenty-five percent of the transaction value, but we do not want to be secondary to their institutional bank. How do we secure our seller note with specific operating assets or equity clawbacks?

Question

Tyler Smith · Accepted Answer

Carrying a seller note means you are acting as a bank, and you must protect your position like one. Senior institutional lenders will always demand that your seller note be fully subordinated to their bank debt, meaning they get paid first and can block your payments if the buyer defaults on their covenants.

To neutralize this risk, you must negotiate specific collateral carve-outs and equity clawback provisions in your purchase agreement. First, seek a junior security interest in specific, identifiable assets of the business that are not fully pledged to the senior lender. This could include intellectual property, proprietary software code, or specific equipment.

Second, build an equity clawback mechanism into the default provisions of the note. If the buyer defaults on their payments to you for more than sixty days, you must have the legal right to convert the unpaid debt back into voting equity of the business. This means if they fail to pay you, you can step back in, seize control of the board, and run the company again.

Furthermore, you should require the buyer's personal guarantees or a pledge of the buying entity's parent stock. Ensure that your senior subordination agreement permits you to collect regular interest and principal payments as long as the buyer is not in active default with their senior lender. Securing these terms keeps the buyer honest and ensures they prioritize your note alongside their bank payments.