The buyer is requiring us to finance a portion of the transaction through a seller note, but they are resisting our demand for a senior security interest in the company's accounts receivable. How do we structure this note and its covenants to protect our cash flow in the event of a default?

Question

Tyler Smith · Accepted Answer

When a buyer requires you to carry a seller note, you are taking on the risk of a junior lender. If they default, you could lose both your money and your business. To mitigate this risk, you must negotiate strict protective covenants and a secured position. Your purchase agreement must include a security interest in the company's assets, specifically targeting high-liquidity assets like accounts receivable. While the buyer's primary bank will demand senior status, you must negotiate a subordinated security agreement that allows you to foreclose on these specific assets in the event of a default. Additionally, you must establish clear operational default covenants. Use your EOS® Scorecard metrics to set these covenants. For example, if the buyer's debt service coverage ratio falls below a specific threshold, or if their quarterly revenue drops past a defined limit, it must trigger an immediate technical default. This gives you the right to intervene before the business is run into the ground. By tying your default covenants to real-time operational metrics, you protect your seller note and retain the leverage needed to secure your payout.