Subordinated / Mezzanine Financing
A form of debt that sits between senior bank debt and equity in the capital structure, offering a higher return in exchange for a lower repayment priority.
Definition
Subordinated financing (also called mezzanine debt) is a financing instrument that sits in an intermediate position within the capital structure of an acquisition. In a default, it’s repaid after senior bank debt but before the buyer’s equity. That lower priority ranking justifies a higher interest rate, generally between 12% and 18% in Canada.
In French-language Quebec documentation, you’ll see financement subordonné (dette mezzanine) used for the same concept.
In an SME transaction, mezzanine financing steps in when the combination of the buyer’s down payment and the bank loan isn’t enough to cover the sale price. It bridges the gap without diluting the buyer’s stake, the way bringing in an equity partner would.
Why subordinated financing matters in a business sale
For an SME seller, mezzanine financing widens the pool of potential buyers. A buyer with 25% in down payment who secures 50% in bank debt needs a complementary source for the remaining 25%. Without access to mezzanine financing, that transaction wouldn’t happen — or the seller would be asked to carry a larger vendor take-back.
In Canada, the BDC (Business Development Bank of Canada) is the most active mezzanine lender for SME transactions. Investissement Québec, certain regional funds, and specialized private lenders also provide this type of financing. Amounts typically range from $500,000 to several million dollars.
From the seller’s perspective, a financing structure that includes mezzanine debt rather than a large vendor take-back is often preferable. The seller receives all (or a greater share) of the price at closing, and the credit risk is borne by a professional lender rather than the seller.
What every seller should know
- Mezzanine financing lets qualified buyers with limited equity finance the full price — it widens the pool of buyers and supports a competitive process.
- The 12% to 18% interest rate is borne by the buyer and doesn’t directly affect the seller, but it raises total debt service and can reduce the business’s capacity to finance growth after the transaction.
- Favour a structure where mezzanine financing replaces part of the vendor take-back — you get your funds at closing rather than over several years with default risk.
- Ask your broker to evaluate whether the proposed financing structure can support total debt service (senior plus mezzanine) — excessive debt puts the transaction at risk.