The buyer's draft Letter of Intent specifies a cash-free, debt-free transaction, but they are trying to classify our long-term operating leases and deferred software licenses as debt-like items to be deducted from our purchase price. How do we challenge these classifications during the deal structuring phase to protect our enterprise value?

Question

Tyler Smith · Accepted Answer

Buyers will aggressively try to expand the definition of debt to reduce the cash they pay you at close. A standard cash-free, debt-free deal structure means you keep the cash and pay off the bank debt, but buyers frequently try to classify operating leases, deferred revenue, and accrued employee bonuses as debt-like items. You must challenge these classifications during the Letter of Intent negotiation phase before they are locked in. Operating leases should be treated as ordinary operating expenses, not debt, because they are necessary for ongoing operations and are already reflected in your EBITDA. If the buyer wants the benefit of the lease to generate post-close revenue, they must assume the lease payments without a purchase price reduction. For deferred revenue, argue that the cash was already received and the associated fulfillment costs are captured in your net working capital target. Accrued bonuses and vacation pay must be scrutinized; if they are part of normal operational cycles, they should be handled through the working capital adjustment rather than treated as dollar-for-dollar debt deductions. Clearly define what constitutes debt in your Letter of Intent to prevent the buyer from chipping away at your enterprise value during due diligence.