The buyer wants to tie our seller note payments to cash flow, but how do we structure covenants to protect our payments without crossing the line into active management?

Question

Tyler Smith · Accepted Answer

When you carry a seller note, you are acting as a bank, but without the bank's massive leverage. If the buyer is pushing for a note where payments are tied to the business's cash flow, you face a major risk of them starving the business or mismanaging operations. To protect your payments, you must negotiate clear cash flow sweeps and operational covenants.

Establish a minimum debt service coverage ratio that the buyer must maintain. If the ratio drops below your target, it triggers an automatic sweep of all excess cash to pay down your note early. You also need to protect the operating model that generated your value in the first place. Require the buyer to maintain the EOS® framework, including the weekly Level 10 Meeting™ cadence and quarterly Rocks. This ensures operational discipline remains high and problems are solved using IDS® before they impact cash flow.

If they abandon these systems, it must trigger a covenant default, allowing you to accelerate the note. Never allow a buyer to run the business into the ground while you sit by waiting for a default. Your note must have teeth. Require monthly financial reporting and the right to inspect their books. Structure the promissory note so that any failure to meet these operational covenants gives you immediate recourse, protecting your principal.