Net Debt Definitions - The Battle Over What Counts

The term sheet looked clean: $12 million enterprise value for a profitable industrial services company generating $8 million in annual revenue at a 15% EBITDA margin (roughly $1.2 million in annual earnings). But between signing and closing, the buyer’s quality of earnings team identified $847,000 in “debt-like items” the seller had never considered debt at all. The contested items included $320,000 in accrued vacation pay accumulated over years of generous rollover policies, a $280,000 customer deposit held for three years on a delayed project, $147,000 in cash trapped in a Canadian subsidiary with repatriation complications, and $100,000 in deferred revenue on prepaid maintenance contracts. At nearly 70% of the company’s annual EBITDA, these characterization disputes transformed what seemed like a straightforward transaction into months of contentious negotiation.

Executive Summary

Net debt calculations determine how enterprise value converts to actual seller proceeds, yet the definition of what constitutes “debt” versus “operating liabilities” remains surprisingly ambiguous in most transactions. This ambiguity creates fertile ground for post-LOI disputes that can significantly affect purchase prices. In our firm’s experience advising on transactions over the past decade, net debt and working capital disputes typically affect purchase prices by 3-7% of enterprise value in deals involving companies with $5 million to $50 million in enterprise value. Higher percentages are more common in asset-heavy businesses with complex balance sheets. Lower percentages are typical in cleaner service businesses with straightforward working capital structures.

The core tension centers on characterization: buyers generally benefit from expanding net debt definitions to include more liability items requiring payoff or deduction, while sellers typically benefit from narrowing these definitions to classify more items as ordinary operating liabilities that transfer with the business. Neither position is inherently wrong in every case. Reasonable professionals can disagree on whether a three-year customer deposit functions more like debt or like working capital. The specific facts and industry context matter enormously. Some characterizations have clear answers under GAAP and established legal precedent, and not every item warrants a fight.

This article examines the mechanics of net debt disputes, analyzes the most commonly contested items category by category, and provides negotiation frameworks that help sellers protect their proceeds. This guidance applies primarily to transactions in the $5 million to $50 million enterprise value range. Smaller transactions may have less sophisticated net debt provisions with fewer contested items, while larger deals often require more complex structures requiring specialized expertise beyond what we cover here. The businesses most vulnerable to net debt surprises are those entering transactions without clear understanding of how every balance sheet item might be characterized and without advisors experienced in defending favorable characterizations against sophisticated buyer arguments.

Understanding net debt definition battles before they occur allows sellers to structure their positions strategically rather than reactively. Every transaction presents unique circumstances, and frameworks that work in one context may require significant adaptation in another.

Introduction

Enterprise value represents the theoretical worth of a business to an acquirer, but sellers don’t deposit enterprise value. They deposit proceeds that survive a gauntlet of adjustments, the most significant being net debt. The basic formula appears simple: equity value (what the seller receives) equals enterprise value minus net debt. But that simplicity conceals the complexity lurking in two seemingly straightforward questions: What counts as debt? What counts as cash?

These questions matter enormously because the answers directly affect proceeds. If a $400,000 customer deposit gets characterized as debt-like, that amount gets deducted from enterprise value before calculating seller proceeds. If that same deposit gets characterized as an operating liability that transfers normally, the seller keeps that $400,000.

The stakes explain why net debt negotiations rank among the most contentious aspects of closing mechanics. Buyers (particularly financial sponsors conducting leveraged acquisitions) tend to characterize marginal items as debt-like, reducing their effective purchase price. Strategic buyers in the same industry may take more flexible positions on certain items they understand operationally. Sellers have equal incentives to characterize those same items as operating liabilities, preserving their proceeds. Neither party is necessarily acting in bad faith. They’re responding rationally to ambiguous definitions and significant financial consequences.

What makes these disputes particularly challenging is timing. Net debt negotiations typically intensify after the letter of intent is signed, when sellers have already invested significant time and energy, have often told employees and customers about the transition, and face mounting pressure to close. While this timing dynamic can advantage buyers who introduce net debt characterization arguments knowing sellers face substantial switching costs, sellers with experienced advisors who establish clear definitions upfront and maintain alternative buyers throughout the process can largely neutralize this disadvantage.

The solution isn’t avoiding net debt provisions. They serve legitimate purposes in ensuring buyers receive businesses in expected financial condition. Rather, the solution involves understanding net debt mechanics thoroughly before signing LOIs, negotiating specific definitions upfront rather than leaving them to closing disputes, and preparing characterization arguments for every balance sheet item that might face buyer challenge. This preparation sometimes reveals items that legitimately warrant debt-like treatment. Better to discover and adjust expectations early than face surprises at closing.

The Mechanics of Net Debt Calculations

Net debt calculations convert enterprise value to equity value by accounting for financial obligations that reduce a business’s value to equity holders. In its purest form, net debt equals interest-bearing debt minus unrestricted cash. A business with $2 million in bank loans and $500,000 in available cash has $1.5 million in net debt, reducing a $10 million enterprise value to $8.5 million in equity value.

But pure-form net debt rarely survives contact with actual transactions. Buyers quickly identify balance sheet items that function like debt: obligations that must be satisfied and that reduce the business’s value, even if they don’t carry explicit interest. Sellers counter by identifying cash equivalents and other items that should increase their proceeds. The negotiation expands outward from the simple starting point until dozens of line items face characterization battles.

Consider that same $2 million/$500,000 example with additional context: the company also carries $150,000 in customer deposits, $200,000 in accrued vacation liability, $300,000 in deferred revenue, and $100,000 in cash held by a foreign subsidiary with repatriation restrictions. Suddenly, net debt could range from $1.15 million to $1.9 million depending entirely on how these items get characterized. That’s a $750,000 swing affecting seller proceeds directly.

The principle should be straightforward: debt-like items are obligations the buyer shouldn’t have to assume without compensation, while operating liabilities are normal business obligations that transfer as part of ongoing operations. A bank loan clearly falls in the first category. Accounts payable to vendors clearly falls in the second. But many items occupy ambiguous middle ground where reasonable people disagree, and resolution often depends on specific facts, industry norms, and relative negotiating power.

What complicates matters further is that net debt interacts with working capital adjustments. Many items that might be characterized as debt-like (accounts payable, accrued expenses, deferred revenue) also appear in working capital calculations. If an item gets excluded from working capital because it’s treated as debt-like, it shouldn’t also be included in net debt, creating a potential double-counting effect that sophisticated sellers must guard against. While experienced buyers typically avoid obvious double-hits that are legally vulnerable, the risk exists and needs attention in deal documentation.

The most dangerous phrase in net debt negotiations is “debt and debt-like items” without specific definitions. This language gives buyers significant latitude to argue for inclusions while leaving sellers to fight defensive battles item by item. Sellers are better served by exhaustive definitions that list specific included and excluded items, leaving less room for creative buyer characterizations.

Commonly Contested Items and Characterization Arguments

Understanding the specific items that generate net debt disputes helps sellers prepare their positions before negotiations begin. Each contested category carries distinct characterization arguments that favor buyers or sellers depending on circumstances. Outcomes vary significantly by industry, transaction type, and the specific facts surrounding each item. The frameworks below provide starting points for analysis, not guaranteed outcomes. Some items clearly fall into debt or operating liability categories under GAAP and established legal precedent. Focus your negotiating energy on genuinely ambiguous items rather than fighting battles with predetermined outcomes.

Accrued Bonuses and Compensation

Buyer argument: Accrued but unpaid bonuses represent obligations the seller incurred that will require cash outflow, functioning like debt that reduces available value.

Seller argument: Compensation accruals are ordinary operating liabilities that appear every year and are already reflected in working capital calculations. Including them in net debt double-counts their impact.

Resolution factors: Timing matters significantly. Bonuses accrued in the ordinary course for normal compensation cycles typically remain operating liabilities. Special transaction bonuses, retention payments, or unusual accruals triggered by the sale itself more appropriately land in net debt. In a 2023 manufacturing transaction we advised on, the buyer initially sought to include $180,000 in standard year-end bonuses as net debt. Documentation showing consistent bonus patterns over five years supported treating them as ordinary working capital items.

Deferred Revenue

Buyer argument: Deferred revenue represents an obligation to perform services already paid for. The buyer inherits this obligation without receiving corresponding cash, making it debt-like.

Seller argument: Deferred revenue is a standard operating liability that reflects normal business operations. The associated costs of fulfilling these obligations are much lower than the revenue recognized, so the buyer benefits from this “liability.”

Resolution factors: The margin associated with deferred revenue matters enormously. High-margin deferred revenue benefits buyers who assume modest fulfillment costs. Industry data consistently shows that subscription software typically carries gross margins of 70-85%, meaning buyers inherit substantial embedded value when assuming deferred revenue in SaaS transactions. Low-margin or negative-margin deferred revenue (like fixed-price construction projects) genuinely burdens buyers and more appropriately faces debt-like characterization. Sellers should quantify the profit embedded in deferred revenue to show it’s an asset, not a liability.

Customer Deposits

Buyer argument: Customer deposits represent cash that must be returned or credited against future work, making them obligations that reduce business value.

Seller argument: Customer deposits that have remained stable for years represent permanent working capital that never gets returned. Customers roll them into ongoing work or leave them in perpetuity.

Resolution factors: Historical evidence of deposit utilization strengthens seller positions. If deposits routinely get applied against work within 90 days, they’re operating liabilities. If significant deposits have remained untouched for years with no customer seeking return, characterizing them as debt overstates the actual obligation. In one distribution company transaction, the seller documented that customer deposits averaging $340,000 had remained stable within a 10% band for seven years, with refunds totaling less than $8,000 annually. This evidence supported working capital treatment.

Restricted and Trapped Cash

Buyer argument: Cash that cannot be freely used for operations (compensating balances, cash in foreign subsidiaries with repatriation restrictions, cash securing letters of credit) shouldn’t count against net debt since the buyer can’t access it.

Seller argument: Restricted cash still belongs to the business and will eventually become available. Foreign cash can be repatriated with planning. Compensating balances remain on the balance sheet.

Resolution factors: The practical accessibility of cash determines appropriate treatment. Cash that faces permanent or long-term restrictions appropriately gets excluded from unrestricted cash. Cash with temporary or technical restrictions that normal operations will resolve should remain included. The tax implications of repatriation also matter. If bringing foreign cash home triggers significant tax liability, the net accessible amount may be substantially less than the gross balance.

Accrued Vacation and PTO

Buyer argument: Accrued vacation represents an obligation requiring either future cash payment or productivity loss when employees take accumulated time, functioning like debt.

Seller argument: PTO accruals are standard operating liabilities included in working capital and should not also reduce net debt.

Resolution factors: Unusual accumulations or balances exceeding normal levels often end up in net debt negotiations. Companies with unlimited PTO policies or that strictly limit accumulation face fewer disputes than those allowing significant balance buildups. Industry practices matter here: a technology company with unlimited PTO has different exposure than a manufacturing firm where union contracts guarantee payout of accumulated time.

Tax Liabilities

Buyer argument: Unpaid taxes, particularly those accrued but not yet due, represent obligations requiring cash outflow and should be treated as debt-like.

Seller argument: Current tax liabilities are ordinary operating items included in working capital. The buyer benefits from cash retained in the business rather than already paid to tax authorities.

Resolution factors: Current-period tax accruals in ordinary amounts typically remain in working capital. Unusual tax liabilities (contested positions, audit reserves, deferred taxes with specific triggering events) more often face net debt characterization. The treatment may also depend on whether the transaction is structured as an asset sale (where sellers typically retain pre-closing tax liabilities) or stock sale (where liabilities transfer with the entity).

Items With Clear Characterizations

Not every balance sheet item warrants negotiation. Some items clearly belong in specific categories regardless of seller arguments:

Clearly debt-like (don’t fight these): Bank term loans, equipment financing, capital leases, seller notes, declared but unpaid dividends, litigation settlement obligations, and transaction-related bonuses specifically triggered by the sale.

Clearly operating liabilities: Trade accounts payable, accrued utilities, ordinary course payroll liabilities, and sales tax collected but not yet remitted.

Preparation improves outcomes for legitimately disputable items but won’t transform clearly debt-like obligations into operating liabilities. Sellers who fight every characterization waste advisory fees on unwinnable battles and damage buyer relationships in the process.

The Double-Counting Trap

The interaction between net debt and working capital adjustments creates opportunities for double-counting that significantly affects seller proceeds. Understanding this interaction is essential for protecting your position.

Working capital adjustments ensure the buyer receives a business with “normal” levels of operating assets and liabilities. If actual working capital at closing falls below the agreed target, sellers pay the shortfall. If it exceeds the target, sellers receive the excess. Items included in working capital thus already affect seller proceeds through this mechanism.

When buyers successfully characterize a working capital item as debt-like, two things happen: it gets removed from working capital (reducing the target and shifting value to the buyer) and it gets added to net debt (further reducing seller proceeds). This creates potential for double-counting that sophisticated sellers must guard against, though experienced buyers typically avoid obvious double-hits that are legally vulnerable.

Consider a $200,000 accrued bonus sitting in accounts payable. If treated as normal working capital, it flows through that mechanism without special adjustment. If the buyer successfully argues it’s debt-like, it gets removed from the working capital calculation (lowering the target by $200,000) and added to net debt (reducing proceeds by another $200,000). Without explicit provisions preventing this outcome, the seller could effectively get hit twice for the same item.

Protecting against double-counting requires explicit definitions that specify each item’s treatment in both working capital and net debt. The cleanest approach excludes debt-like items from working capital calculations while including them in net debt, ensuring they affect proceeds only once. But this requires identifying every potentially contested item before signing definitive agreements rather than leaving characterizations to closing negotiations.

When Negotiations Fail: Understanding Downside Scenarios

Not every net debt negotiation ends favorably for sellers, and understanding failure scenarios helps calibrate expectations and preparation efforts. We’ve observed several patterns in negotiations that don’t go well:

Inadequate preparation leading to reactive positioning. Sellers who haven’t analyzed their balance sheets before signing LOIs often discover contested items only when buyers raise them. By that point, the seller lacks documentation, historical evidence, and time to develop strong characterization arguments. In these situations, sellers frequently concede points they might have won with preparation.

Advisor mismatches. When buyers engage transaction-experienced counsel and accounting firms while sellers rely on general business attorneys or local CPAs without M&A specialization, information asymmetries compound. The seller’s team may not recognize standard buyer tactics or may concede points that experienced advisors would contest.

Walking away too late or not at all. Some sellers become so committed to closing that they accept net debt characterizations destroying significant value. Sellers should compare the cost of disputed items against the cost and risk of pursuing alternatives. If net debt disputes exceed 5% of enterprise value, walking away and re-marketing may preserve more value than conceding points. In one case we reviewed (though did not advise on), a seller accepted $380,000 in additional net debt deductions rather than walk away from a transaction. These deductions likely would have been negotiated down substantially had the seller maintained credible alternatives.

Definitional ambiguity in purchase agreements. Sellers who sign agreements with undefined “debt-like items” language cede interpretive authority to buyers. Subsequent disputes often get resolved through mechanisms favoring buyers: escrow holdbacks, earnout adjustments, or expensive arbitration proceedings.

Over-preparation that damages relationships. Less common but worth noting: some sellers become so adversarial about definitions early in negotiations that they signal distrust to buyers, potentially causing deal withdrawal or reduced offers. Balance specificity with relationship management.

Preparation reveals genuine problems. Occasionally, thorough balance sheet analysis uncovers items that legitimately warrant debt-like treatment: obligations the seller hadn’t fully appreciated. While discovering this early beats closing-table surprises, it can mean adjusting proceeds expectations downward.

These scenarios don’t suggest that net debt negotiations are unwinnable. They show that outcomes depend heavily on preparation, advisor quality, and negotiating discipline. Sellers who understand potential failure modes can work actively to avoid them.

Negotiation Frameworks for Sellers

Effective net debt negotiation begins long before disputes arise. Sellers who wait until buyers challenge specific items fight from weakened positions. Those who establish frameworks early control the conversation. These frameworks require adaptation to specific circumstances. They provide structure for thinking, not scripts for execution.

Pre-LOI Category Analysis

Before signing any letter of intent, analyze every balance sheet liability and cash item for potential characterization disputes. Create a three-column table: items clearly within ordinary working capital, items clearly debt-like, and items in the contested middle ground. For each contested item, prepare arguments supporting favorable characterization.

This analysis serves two purposes. First, it reveals potential net debt exposure you might not have considered, allowing realistic proceeds expectations. Second, it prepares you to negotiate specific definitions in the LOI rather than accepting vague “debt and debt-like items” language that advantages buyers.

Timeline reality: Begin balance sheet analysis six to eight weeks before expected LOI signing to allow time for documentation gathering and argument development. In our experience, this preparation requires 40-60 hours of senior financial management time plus $5,000-$15,000 in additional accounting analysis, beyond standard advisory fees. Don’t underestimate the calendar time needed. Rushing this work produces inferior results.

Definition Specificity in Term Sheets

The LOI stage offers the best opportunity to establish net debt definitions. Push for explicit lists of included items rather than general categories. If the buyer wants accrued bonuses in net debt, make them say so specifically, then you can negotiate that point directly. Vague language like “customary debt-like items” invites later disputes where buyers hold power.

Ideal LOI language includes exhaustive lists: “Net debt means (a) all bank indebtedness, (b) capital lease obligations, and (c) the specific items listed on Schedule A, minus unrestricted cash. For avoidance of doubt, net debt excludes ordinary course accruals for compensation, vacation, and similar items included in the working capital calculation.”

Implementation reality: While exhaustive definitions are ideal, expect compromise language like “items substantially similar in character to those listed.” Buyers resist complete specificity at LOI stage because they can’t anticipate all items without full diligence. Focus on defining the most material and predictable items specifically while accepting that some flexibility language may be unavoidable.

Relationship management: Signal that you want clarity, not confrontation. Frame requests as: “We’d like to understand the net debt calculation precisely to ensure realistic expectations on both sides.” Overly adversarial positioning on definitions can signal distrust and damage buyer relationships. Approximately 15-20% of transactions where sellers take maximally aggressive positions early experience relationship deterioration.

Historical Evidence Documentation

For contested items, compile historical evidence supporting favorable characterization. Customer deposit stability, deferred revenue margins, and PTO utilization patterns all support favorable characterizations. Compile this evidence before negotiations rather than scrambling during disputes.

Documentary evidence carries more weight than characterization arguments alone. The seller who can show that customer deposits have never been refunded in a decade defeats the buyer argument about refund obligations more effectively than abstract working capital definitions.

Margin Analysis for Deferred Revenue

Deferred revenue disputes respond well to margin-based frameworks. Calculate the cost to fulfill deferred revenue obligations versus the revenue those obligations will generate. Present this analysis proactively rather than waiting for buyer characterization attempts.

A clear demonstration that deferred revenue represents embedded value changes the conversation from “this is a liability requiring deduction” to “this is future profit requiring no adjustment.” For service businesses with gross margins exceeding 60%, this analysis often proves decisive.

Alternative Approaches and When to Use Them

Not all negotiations benefit from adversarial positioning. In some circumstances (particularly with strategic buyers who will continue operating the business and value ongoing seller relationships) collaborative approaches work better. Consider:

Joint definition development. Rather than fighting over each item, work with the buyer to develop definitions that both parties consider fair, acknowledging that reasonable people can disagree and seeking middle ground.

Materiality thresholds. Agree that items below certain dollar thresholds won’t be contested, focusing negotiating energy on items that actually move the needle.

True-up mechanisms. For genuinely uncertain items (like customer deposits that might or might not be refunded), consider mechanisms that adjust based on actual outcomes over defined periods post-closing.

These approaches sacrifice some potential upside for reduced transaction friction and preserved relationships. They work best when sellers prioritize deal certainty or ongoing involvement over maximizing every dollar of proceeds.

Knowing When to Walk Away

Sellers need frameworks for deciding when disputes justify walking away versus accepting unfavorable terms:

Walk away indicators: Net debt disputes exceed 5% of enterprise value; buyer introduces new contested items after definitive agreement signing; buyer’s positions contradict clear GAAP or industry standards; buyer relationship has become adversarial with limited cooperation.

Accept terms indicators: Total disputed amount is less than 2% of proceeds; speed matters more than optimization (health issues, competitive concerns, personal circumstances); re-marketing costs and delays would exceed dispute value; buyer relationship remains collaborative and future involvement depends on goodwill.

The calculation isn’t purely financial. Transaction fatigue, opportunity costs of extended negotiations, and relationship preservation all factor into rational decision-making.

Selecting and Working with M&A Counsel

The recommendation to “engage experienced M&A counsel” deserves more specificity. Not all transaction attorneys bring equal capabilities to net debt negotiations, and the cost differential between experienced and inexperienced representation often pales compared to value at stake.

What to look for: Counsel should have specific experience with net debt and working capital disputes, not just general M&A experience. Ask about specific transactions where they’ve negotiated contested net debt items. Request references from sellers (not just completed deals, but sellers specifically). Evaluate their quality of earnings review experience. Attorneys who understand QofE reports can anticipate buyer arguments before they surface.

Expected costs: In our experience representing sellers in transactions of this size, expect M&A legal fees of $75,000-$150,000 for experienced counsel through closing. Quality of earnings defense (having your own accountants review the buyer’s QofE and prepare counter-analyses) typically adds $25,000-$50,000. These costs feel substantial but represent 1-2% of transaction value while protecting against adjustments that often exceed those amounts.

Red flags: Attorneys who quote significantly below market rates, who lack specific net debt dispute experience, or who seem unfamiliar with common buyer tactics in your industry warrant caution. The savings rarely justify the risk.

Industry Variations in Net Debt Disputes

Net debt characterization battles vary significantly by industry, and understanding these patterns helps sellers anticipate their specific exposure:

Technology and SaaS companies face frequent debates over deferred revenue treatment. The high margins embedded in software subscriptions typically favor seller arguments that deferred revenue represents value, not liability. Customer concentration in deferred revenue and churn risk factor into characterization discussions.

Manufacturing businesses more commonly contest accrued liabilities, particularly around vacation accruals, warranty reserves, and environmental obligations. Asset-heavy balance sheets create more potential line items for dispute. Foreign subsidiary cash trapped overseas appears frequently in manufacturers with international operations.

Professional services firms see disputes centered on accrued bonuses and employee-related obligations. The timing of performance-based compensation relative to transaction closing drives many characterization arguments.

Distribution companies face working capital volatility that complicates net debt calculations. Seasonal inventory builds, customer deposit patterns, and vendor payment terms create complexity that requires careful definition work.

Construction and project-based businesses encounter challenging deferred revenue discussions around work in progress and percentage-of-completion accounting. Low or negative margins on specific projects can make buyer arguments for debt-like treatment more compelling.

Understanding your industry’s typical disputes allows more targeted preparation and helps calibrate which battles to fight versus accept.

Actionable Takeaways

Conduct comprehensive balance sheet analysis six to eight weeks before any LOI. Identify every item that might face characterization challenge and prepare supporting arguments for favorable treatment. Budget 40-60 hours of senior financial management time plus $5,000-$15,000 in additional accounting analysis for this preparation.

Negotiate specific net debt definitions in term sheets. Reject vague “debt-like items” language that gives buyers significant latitude. Push for exhaustive definitions listing exactly what’s included and excluded, while acknowledging you may need to accept some “substantially similar” compromise language.

Guard against double-counting between net debt and working capital. Ensure items removed from working capital as debt-like don’t also appear in net debt calculations. Require explicit allocation provisions that prevent proceeds reduction for the same item twice.

Document historical evidence for contested items. Customer deposit stability, deferred revenue margins, and PTO utilization patterns all support favorable characterizations. Compile this evidence before negotiations rather than scrambling during disputes.

Calculate embedded margins in deferred revenue. Show that deferred revenue represents future profit, not liability, by quantifying the cost to fulfill versus revenue recognized. This analysis transforms characterization conversations.

Engage M&A counsel experienced in net debt disputes. In our experience, expect to pay $75,000-$150,000 for quality representation, and view this as investment protection rather than expense. Quality of earnings defense adds another $25,000-$50,000 but often pays for itself many times over.

Maintain credible alternatives throughout the process. Sellers who can walk away negotiate better outcomes than those who can’t. Keep other potential buyers warm, avoid burning bridges, and don’t let emotional commitment to closing override economic rationality.

Know which battles to fight. Focus negotiating energy on genuinely ambiguous items where preparation and evidence can make a difference. Don’t waste resources fighting clearly debt-like items that have established characterizations under GAAP and legal precedent.

Conclusion

Net debt definition disputes represent one of the most significant and least understood risks to seller proceeds in transactions involving companies with $5 million to $50 million in enterprise value. The ambiguity inherent in characterizing balance sheet items as debt-like versus operating liabilities creates natural tension that experienced buyers understand and less-prepared sellers often underestimate.

The solution begins with education. Understand that net debt calculations involve judgment and negotiation, not mechanical application of obvious rules. Recognize that some items have clear characterizations that don’t warrant disputes. It continues with preparation: analyzing every balance sheet item for characterization risk and developing supporting arguments before negotiations begin, with realistic timelines and budgets for this work. And it culminates in disciplined negotiation: establishing specific definitions in term sheets rather than leaving characterization to post-LOI disputes, while maintaining the relationship management and walk-away discipline that preserve power throughout the process.

Every transaction presents unique circumstances. The frameworks in this article provide structure for analysis and negotiation, but they require adaptation to specific facts, industry contexts, and deal dynamics. What works for a software company with high-margin deferred revenue differs from appropriate approaches for a manufacturing business with trapped foreign cash.

Sellers who master net debt mechanics enter transactions with realistic proceeds expectations, negotiate from positions of knowledge rather than ignorance, and protect their equity value through the closing process. Those who don’t often discover, like our industrial services company owner, that the gap between enterprise value and actual proceeds can reach hundreds of thousands of dollars. Appropriate preparation and negotiation could have preserved those dollars.