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Valuation, Financing, Transaction, Merger, Acquisition, Divestiture, Fairness Opinion, Corporate Finance, Financial Advisor

What is Subdebt Financing and when should you consider it?


Subdebt is high yielding debt that is subordinated to the senior secured debt of a business but ranks ahead of the shareholders’ equity.  Subdebt lenders rely upon the ability of a business to generate sufficient cash flows to service both the senior secured debt and their subdebt. 


The annual cost of subdebt (after-tax cost of 8% to 12%) is higher than senior secured debt (after-tax cost of 3% to 5%) but less than the cost of equity (after-tax cost of 15% to 25% for private companies).   Alternative financing typically considered in lieu of subdebt include vendor-take back financing for an acquisition and/or asset based financing which provide larger operating lines and term lenders/leasing alternatives which lend on the value of the assets of the business.


Subdebt financing offers the following advantages:  it enables growth initiatives, acquisitions and management buyouts to be implemented; it maximizes the availability of debt at the lowest cost of capital for the business; it enables shareholders to minimize their equity investment thereby minimizing their business risk; it provides access to debt financing on the intangible assets of the business; and, it enables the maximum return on equity investment of the shareolders of the business to be achieved.

Case Illustration


To view the numbers for the case illustration click here.


ABC Co. (“ABC” or the “Company”) is a well established business with a management team with a proven track record in place. 


ABC's senior management team has entered into management buyout (MBO) negotiations to acquire the shares of the founder of the Company for $6.5 million.  ABC’s senior debt capacity was fully utilized and the Company’s management team had $3 million in equity available to invest into the management buyout.  ABC's management team and its trusted advisors undertook to raise $3.5 million in subdebt to fund the balance of the agreed upon purchase price ($6.5 million minus $3 million).


ABC's balance sheet and income statement and selected financial statistics/ratios are presented under two alternatives:  100% of the $6.5 million purchase price financed with equity; and, $3.5 million of the $6.5 million purchase price financed with subdebt and the remainder of the purchase price of $3 million financed with the equity available from the management team.  Raising subdebt enabled the management team to undertake the management buyout with the limited $3 million in equity available.  In addition, the subdebt alternative enabled the return on equity to be increased to 34.4% versus 22.9% had the purchase price been financed 100% with equity (assuming $6.5 million in equity had been available from the management team).


To view our firm's Financing experience click here.


Claude Conan, CA, CPA, CBV, MBA (Founder and President of Quantum Advisory Inc.) can be reached by telephone at 780.669.9724 or email at

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