If I was to look back at the structure of the last 50 corporate transactions that the Lupton Fawcett Corporate team have advised on, I would expect that a fairly healthy majority of those deals were structured on a "Cash Free/Debt Free" basis.

In broad terms the legal process that must be undertaken when selling a business via a share sale is a familiar path – but at the same time, every deal is different so it can be dangerous for a buyer and seller to agree to proceed based on a Cash Free/Debt Free structure without any real analysis of what it actually means in the context of that particular deal.

Cash Free/Debt Free more often than not goes hand in hand with an assumption that the target business will be delivered with sufficient working capital.  As ever, the devil is in the detail – sometimes Heads of Terms refer to “adequate working capital” or perhaps “normalised working capital”.  Adequate and normal can mean two different things.  “Normalised” working capital usually infers normal by reference to how the business has been historically run up to the point of completion; however “adequate” working capital may infer adequate in the eyes of the buyer.

“Cash Free” does not mean that the sellers can simply empty the target bank account in addition to receiving whatever amount has been agreed for the goodwill of the business.  A buyer would usually be prepared to allow a seller to benefit from any excess cash in the business – but excess cash is usually only cash which does not form a component part of working capital.  Again, it is absolutely essential to nail these concepts at the outset so there is no scope for misunderstanding later on.

A simple interpretation of Debt Free would be that the target business would be acquired free of any debt or borrowings that have facilitated the growth in capital value of the business. Or to put this another way if you are the buyer, everything that is debt-like apart from ordinary course trade creditors. But what about hire purchase and financing lease arrangements?  What about inter‑company debts?  What about CBILs loans and other short term Covid-related funding support? Do items like this constitute debt which should be discharged by the sellers in order to arrive at a net sale price?  It is essential that the liabilities (actual and contingent) of the target business are analysed carefully before a seller commits to a particular definition of debt in order to make sure that a liability which is actually a component part of working capital is not treated as debt.  On one of our recent deals the target was a retail business that occupied lots of shops pursuant to a portfolio of leases most of which were due to expire within a few years of completion – should the considerable (yet contingent) dilapidations liabilities under those leases that would crystallise shortly after completion be treated as debt for the purposes of arriving at Cash Free/Debt Free?

It is absolutely essential that parties who are intending to structure a deal on a Cash Free/Debt Free basis take good advice from the outset. A buyer’s first draft Heads of Terms will usually include a very broad definition of “debt and debt-like items” for the purposes of Cash Free/Debt Free – a seller will find it difficult later on in the transaction process to reverse out of a buyer-friendly definition of debt that was agreed in Heads of Terms.

The Corporate Finance team at Lupton Fawcett have lots of experience of all types of corporate transactions, but in particular those structured on a Cash Free/Debt Free basis, acting for both buyers and sellers.

Feel free to get in touch for a no obligation chat by contacting Daniel McCormack on 0113 280 2021 or daniel.mccormack@luptonfawcett.law


Please note this information is provided by way of example and may not be complete and is certainly not intended to constitute legal advice. You should take bespoke advice for your circumstances.

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