When a seller receives an offer for their business, the offer will state an Enterprise Value, which is commonly based on a Revenue/EBITDA multiple or a Discounted Cash Flow. The Enterprise Value will typically assume adequate working capital and a “cash-free debt-free” structure.
As part of due diligence, the buyer’s accounting firm will likely perform what’s called a “Net Debt Analysis,” which identifies actual net financial debt (cash and cash equivalents net of financial liabilities) as well as “debt-like items” which may be treated similarly to financial debt.
Understanding debt-like items is extremely important as a seller, as it may be a direct purchase price adjustment to Enterprise Value (i.e. the amount of actual cash consideration into the pocket of a seller). Like anything, this is negotiable between buyer and seller, and whether something is treated as debt-like, or a component of working capital is up for discussion and interpretation. By default, what the buyer’s accounting firm determines is not part of working capital is the starting point for debt-like considerations.
Again, for emphasis, why is understanding debt-like treatment important for a seller?
Well, because it may end up being a dollar-for-dollar adjustment to the purchase price (which = less cash consideration to the seller).
So, what are some common items that may be considered debt-like?
Note, this is in no particular order and not an exhaustive list, and each item is up for individual interpretation, discussion, and negotiation, depending on a seller’s unique situation and the deal terms.
- Unfunded benefit obligations
- Asset purchase obligations
- Royalties due
- Minority interests
- Accrued interest
- Accrued income taxes
- Accrued and/or committed capex
- Overdue trade payables
- Credit accounts receivable balances (customer overpayments)
- Related party balances
- Licensing fees
- Gift card liabilities
- Obligations for any returns of capital (e.g., dividend distributions, profit transfers)
- Transaction fees related to the deal
- Earn-out payments for past acquisitions
- Unpaid bonus and severance
- Amounts due to authorities
- Unpaid legal fees and settlements
- Unpaid restructuring obligations
- Finance lease liabilities
Sellers should make sure they are discussing debt-like item treatment with their M&A investment banking team to determine the best negotiation approach.
