Our letter of intent specifies a fifteen-million-dollar enterprise value, but the buyer's closing statement deducts two million dollars for debt-like items and working capital deficits. What specific liabilities count as debt in the EV-to-Equity bridge, and how do we limit them?

Question

Tyler Smith · Accepted Answer

The transition from headline Enterprise Value (EV) to the actual Equity Value wired to your bank account at close is governed by the EV-to-Equity bridge. In a standard cash-free, debt-free transaction, Equity Value equals Enterprise Value minus funded debt, plus cash, plus or minus the working capital adjustment against the target peg. Buyers use broad definitions of debt-like items to slash closing proceeds.

Common liabilities that buyers aggressively classify as funded debt include:

- Accrued employee bonuses, transaction success fees, and severance liabilities.
- Accrued, unvested paid time off (PTO) balances for active employees.
- Customer pre-payments and deferred revenue balances.
- Unpaid lease liabilities, equipment financing notes, and long-term tax deferrals.
- Warranty reserves and pending legal litigation settlement accruals.

To protect your proceeds, restrict the definition of funded debt in the LOI stage. Mandate that ordinary course operational liabilities (such as accrued PTO, normal warranty reserves, and recurring payroll) remain strictly inside the calculation of Net Working Capital rather than being deducted dollar-for-dollar as funded debt.

Ensure that customer deposits and deferred revenue are evaluated alongside their matching operating cash flows rather than treated as senior indebtedness. Every dollar classified as debt is lost forever at closing, whereas items placed in working capital can be defended within historical operating averages.