Capital Stack Builder.

Reading the capital stack

• What a capital stack is

  The capital stack is every source of money used to pay the purchase price, ranked by who gets repaid first. Senior debt sits at the bottom with the first claim on cash flow and assets, followed by mezzanine debt, vendor finance and contingent earnout payments, with buyer equity at the top. The higher a layer sits, the more risk it carries and the higher the return it demands.

• How the tool calculates cost

  Each layer is its percentage of enterprise value. Cash at close is equity plus senior debt, mezzanine and vendor finance, because those are paid or advanced at completion. The earnout is shown separately as it is only paid if targets are met.

  Interest is calculated simply, as principal multiplied by rate and term, to give a clear indication of total financing cost. Real facilities amortise, so actual interest is usually lower than this simple figure. Leverage is senior plus mezzanine debt divided by equity.

• Senior debt and adjusted EBITDA

  Lenders size senior debt as a multiple of the business's earnings, and they use their own view of adjusted EBITDA (opens in a new tab). If a lender rejects $200,000 of add-backs and lends at 3x, the buyer loses $600,000 of debt capacity and has to fill the gap with equity or vendor finance. Recurring-revenue lenders to software businesses may lend against ARR instead, usually with tighter covenants and higher pricing.

• Mezzanine and unitranche

  Mezzanine debt sits behind senior lenders, so it is priced higher and often carries payment-in-kind interest or equity warrants. In many mid-market deals, a single unitranche facility from a private credit fund replaces separate senior and mezzanine layers, which simplifies the intercreditor position at a blended cost.

• Vendor finance

  Vendor finance is part of the price the seller agrees to receive later, as a loan to the buyer. It closes a funding gap and signals that the seller believes in the business. It is usually subordinated to the bank, so the seller is repaid only after senior lenders are satisfied and may be blocked from receiving payments if the business breaches covenants. Sellers should seek security, a personal or parent guarantee and a clear repayment schedule.

• Where the earnout fits

  An earnout reduces the cash the buyer needs at close, but it is not free funding. For the seller it is contingent consideration (opens in a new tab) that may never be paid. Model the earnout scenarios separately in the Earnout Modelling Tool before relying on it in the stack.

• The working capital peg and funds flow

  The headline price is not the cash required. A shortfall against the working capital peg (opens in a new tab), transaction fees, arrangement fees and any debt repaid at completion all change the funds flow. Buyers should keep headroom in the equity layer so that a completion adjustment does not leave the deal short on the day.

• Common structuring pitfalls

  • Debt service that the business's free cash flow cannot comfortably cover
  • Covenants tested on an EBITDA definition different from the purchase agreement
  • Vendor finance and earnout combined, leaving the seller heavily exposed
  • No allowance for fees, which often run to several percent of deal value
  • Refinancing risk when bullet repayments fall due before the exit