Most offers for a private company contain a phrase that owners often read past: "on a cash free, debt free basis". It looks like a technicality. It is not. It decides how the headline price becomes the amount you are paid for your shares, and then the money that reaches your account.
This article covers what the phrase means, which definitions move the price, and the route from the headline number to your pocket.
What the words mean
A price on a cash free, debt free basis is a price for the business as if it had no surplus cash and no financial debt. The buyer pays for the operations, not for the bank balance or the loans.
In practice the company is rarely emptied of cash or cleared of debt before closing. Instead, the price is adjusted: surplus cash is added, financial debt is deducted, and working capital is compared with an agreed normal level. Debts from ordinary trading, such as amounts owed to suppliers, stay in working capital.
Why buyers price this way
The convention separates the value of the business from the way it is financed, so offers can be compared on the same basis. The logic is simple: surplus cash built up under your ownership belongs to you, and debt taken on under your ownership is yours to settle.
What happens to cash and debt at closing
You can take surplus cash out before closing, for example as a dividend or by repaying a loan you made to the company, or leave it in and be paid for it through the price. Buyers often prefer the first, because paying for cash means financing a larger price. The choice has tax consequences, so discuss it with your tax adviser.
Bank debt is usually repaid at closing, often by the buyer paying the lender directly out of the price. Every euro that goes to the bank is a euro less for you.
The definitions that move the price
Trapped and minimum cash. Not every euro in the bank counts as free cash. Deposits held as security, money held for customers and cash that cannot be moved without a tax cost may be excluded. Buyers also expect some cash to stay in the company to run it. If that minimum is a separate amount, it reduces the cash you are paid for, so ask how it was set.
Overdrafts and cash pooling. An overdraft is normally treated as debt, even when it funds daily trading. If the company is in a group cash pool, its balance is usually settled at closing, and the agreement must say whether it counts as cash or debt.
Shareholder loans. A loan from you to the company is normally deducted as debt and repaid to you at closing. A loan from the company to you works the other way, and the agreement must say how it is settled.
Leases. If lease costs were left out of the EBITDA behind the valuation, the buyer will usually deduct the lease liabilities. If they were included, deducting them again would count the same cost twice.
Unpaid taxes. Corporate income tax on profits earned before closing is almost always treated as debt-like. VAT and payroll taxes usually sit in working capital, unless they have built up as overdue amounts.
How the definitions get into the LOI and the SPA
The letter of intent usually states the headline price and the basis: cash free, debt free, with a normal level of working capital. The detailed definitions come later, in the share purchase agreement, after due diligence, when you are usually in exclusivity with one buyer.
So it pays to agree the main lines early. A short schedule to the letter of intent can list which items count as debt, how much cash stays in the company and how the working capital target will be set.
From headline price to your pocket: a hypothetical example
Take a hypothetical offer of €8.0 million on a cash free, debt free basis, of which €1.0 million is an earnout payable after two years if agreed targets are met. At closing the company has €0.9 million in the bank, and €0.3 million is agreed to stay in the business as minimum operating cash.
- Headline price: €8.0m
- Plus free cash (€0.9m less €0.3m minimum cash): €0.6m
- Less bank loan, repaid at closing: €1.2m
- Less overdraft: €0.1m
- Less corporate tax on profits before closing: €0.2m
- Less working capital shortfall (€1.4m against a target of €1.5m): €0.1m
- Price for the shares: €7.0m
Not all of the €7.0 million is paid on the day:
- Earnout, payable later if the targets are met: €1.0m
- Held in escrow for 18 months to cover possible claims: €0.5m
- Paid at closing: €5.5m
- Less your own adviser and legal fees: €0.3m
- Left at closing, before personal tax: €5.2m
From an €8.0 million headline, the owner keeps €5.2 million on the day of closing. Up to €1.5 million more may follow if there are no escrow claims and the earnout targets are met. Personal tax then depends on the country and the deal structure, so the example stops before tax.
What to check before you sign the LOI
- Confirm the basis in writing. Cash free, debt free, with a normal level of working capital.
- Ask for an illustrative bridge. Ask the buyer to walk your latest balance sheet from the headline price to the price for the shares.
- Agree the cash rules. How much cash stays in the company, and which balances will not count as free cash.
- List the debt items. Overdrafts, leases, shareholder loans, cash pool balances and unpaid taxes: agree how each is treated.
- Separate closing money from later money. Escrow, deferred payments and earnouts as separate amounts, with their conditions.
- Model your net proceeds. Estimate what you keep after fees and personal tax, and compare offers on that number.
The bottom line
"Cash free, debt free" is not small print. It is the rule that turns the headline price into your price. The phrase is standard, but the definitions behind it are negotiated, and they are easiest to agree before you grant exclusivity.
At Conclave Partners we help owners of mid-sized companies prepare for a sale and compare offers on what they actually receive, working on a success fee basis. If you are thinking about selling in the next few years, a short conversation about how your own balance sheet would move the price is a good place to start.
Related reading: Enterprise Value vs Equity Value: What Does the Seller Receive?
Sergi Kosiakof, Conclave Partners
This article is general information, not financial, legal or tax advice. The example is illustrative. Always take advice for your specific situation.
