Critical M&A Contract Terms #3: Managing balance sheet adjustments

So, you thought you negotiated the price for your company - but think again. ​ The contract determines how the balance sheet will be treated and that treatment will result in a price adjustment.

There’s lots of value in your balance sheet, and the way that it is divided up will impact the amount of money you put in your pocket or leave for the buyer. The two popular methods for dividing up a balance sheet are called “locked box” and “completion” accounts. The locked box method is more popular outside the US and calculates price based on a recent historical balance sheet. Completion accounts are adjusted at closing and are generally seen as more buyer-friendly than a locked box. Neither method is intended to alter the amount saved for the business, but in practice it can. Here are a couple of common pitfalls to watch for:

  • Structure language that says the transaction will be done on a cash-free, debt-free basis, when the normalized level of working capital is not enough. It sounds like the seller gets all the cash and pays all the debt, but that’s not exactly true. Every business needs a certain amount of working capital, and that amount may change with seasonality, product price, or margin cycles. So what’s normal?
  • Also, be sure you and the buyer are using the same accounting math. The buyer may want to reclassify some of your short-term deferred revenue as long-term and a liability, resulting in a balance sheet adjustment against you.

There are some additional pitfalls, too, so watch carefully. True cash-and-carry deals are seldom seen.

We’ll continue this blog series next week with “Securing reasonable escrow and holdbacks”; and all ten posts will be compiled here.

 

Posted by , Senior Vice President on 9 July 2015
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