Cash-free, debt-free (CFDF) means the buyer's price is for the operating business by itself: at closing, the seller keeps the company's cash and pays off its debt, and the purchase price adjusts for both. The headline number in the offer is enterprise value. What the seller actually receives is equity value: enterprise value, plus cash, minus debt, minus debt-like items, plus or minus a working capital adjustment.
Most US private-company deals are priced this way, and the gap between the two numbers is where sellers get hurt. The headline multiple gets negotiated hard while the definitions of debt and debt-like items get left for later, and later is when negotiating leverage is gone. What follows describes US private-deal practice. It is educational information, not legal, tax, or accounting advice; consult qualified M&A counsel and tax advisors on your own transaction.
Why deals are priced cash-free, debt-free
Most offers are built on a multiple of EBITDA (earnings before interest, taxes, depreciation, and amortization). EBITDA excludes interest expense, so an EBITDA-based valuation already assumes the business carries no debt. Cash gets the mirror-image treatment: buyers view it as a nonoperating asset, since a normal operating cash cushion can be funded with a line of credit. Pricing on a CFDF basis keeps the negotiation focused on earnings power, not on whatever happens to sit on the balance sheet on closing day.
The mechanics are simple in concept: the seller sweeps the cash, retires the debt out of proceeds at the closing table, and delivers the business with a normal level of working capital (receivables, inventory, payables). The fights are all in the definitions.
Enterprise value vs. equity value
Enterprise value is the value of the operating business independent of how it is financed. When a letter of intent (LOI) says "$10 million on a cash-free, debt-free basis," that is enterprise value. Equity value is what the owners actually receive for their shares once the balance sheet is settled. For a debt-free company sitting on little cash, the two are close. For a company carrying a term loan, equipment leases, and a pile of customer prepayments, they can be far apart.
The equity bridge, with numbers
The conversion from one to the other is called the equity bridge:
Equity value = enterprise value + cash − debt − debt-like items ± working capital adjustment
A worked example. A buyer offers five times $2 million of adjusted EBITDA: $10 million of enterprise value. At closing the company holds $400,000 of cash, owes $1.8 million on a term loan and revolver, carries a $300,000 finance lease balance on equipment, and has $250,000 of accrued income taxes for the pre-closing period that the buyer treats as debt-like. Working capital lands exactly on the negotiated target, so that adjustment is zero. The bridge: $10,000,000 + $400,000 − $1,800,000 − $300,000 − $250,000 = $8,050,000 of equity value, before escrows and transaction fees. An owner who mentally spent the headline $10 million is wiring home about 80 cents on that dollar, every step of it explainable and most of it negotiable.
What counts as debt: the easy part
Funded, interest-bearing obligations are debt in essentially every deal:
- Term loans and mortgages
- Lines of credit and revolvers
- Capitalized (finance) equipment leases
- Shareholder notes and other related-party borrowings
- Accrued interest, plus any prepayment penalties triggered by the payoff
These are retired at closing out of the seller's proceeds, documented with payoff letters from each lender. Sellers rarely dispute this list. The real negotiation is one layer down.
Debt-like items: where the fight lives
A debt-like item is a liability that bears no interest and is not a borrowing, but that the buyer treats as debt because it represents a future cash cost for value the seller already received. Every dollar classified as debt-like reduces equity value dollar-for-dollar, with no offsetting credit anywhere else in the deal. And classification is a negotiation, not an accounting rule: the same liability can be debt-like in one deal and ordinary working capital in the next.
| Item | Buyer's argument for debt-like treatment | Seller's usual counter |
|---|---|---|
| Deferred revenue | Seller collected the cash; buyer must deliver the service | Low cost to serve; a rolling balance that belongs in working capital |
| Unpaid pre-closing taxes (income, sales and use) | Arose on the seller's watch; seller already received the related funds | Ordinary-course accrual already reflected in the working capital target |
| Capital (finance) leases | Financing in substance; carries interest like any loan | Little to argue; usually conceded as debt |
| Customer deposits | Cash received for orders the buyer must fulfill | A permanent, self-replenishing source of working capital |
| Accrued bonuses and commissions | Earned on pre-closing results the seller was already paid a multiple on | Recurring compensation accrual present in every month's balance sheet |
| Accrued severance, deferred compensation, unfunded pension | Legacy obligations unrelated to go-forward operations | Weak counter; often handled by seller payoff or indemnity |
| Related-party payables | Insider financing, not a trade liability | Usually settled or forgiven before closing |
| Severely aged trade payables | Stretching vendors is informal financing | Timing noise the working capital peg already captures |
| Legal settlements and prior-deal earnout obligations | Nonoperating; the related costs were added back to EBITDA | Contingent and possibly never payable at the booked amount |
| Unpaid transaction expenses | Seller's own deal costs (bankers, lawyers, accountants) | None; sellers bear these by convention |
Deferred revenue, the expensive one
Deferred revenue is cash collected for products or services not yet delivered: annual software subscriptions billed up front, maintenance contracts, retainers. The buyer inherits the obligation to perform; the seller already banked the cash. Buyers open at 100 percent debt-like treatment. The better framework is cost to serve: if fulfilling the obligation costs the buyer little, as with many software subscriptions, a full dollar-for-dollar deduction overpays the buyer. Many deals settle at a negotiated fraction; one published accounting-firm illustration funds deferred revenue at 50 percent of its balance. For a company with $1.2 million of deferred revenue, the difference between full and half treatment is $600,000 of proceeds.
Unpaid and accrued taxes
The standard allocation makes the seller responsible for taxes on pre-closing earnings and the buyer responsible afterward, which turns accrued income taxes into a debt-like item rather than working capital. Sales and use taxes draw special attention because the seller already collected the money from customers; buyers routinely insist that accrued but unremitted balances come off the price. Diligence can also surface taxes never booked at all, such as sales tax owed in states where the company sold but never filed; these emerge as debt-like items or escrowed indemnities.
Capital leases and lease-like obligations
Capitalized equipment leases carry interest and amortize like loans, so they sit in the debt bucket alongside bank borrowings, a treatment sellers rarely beat. Watch the perimeter, though: deferred rent arising from landlord-financed leasehold improvements behaves like a capital lease and can be argued into the same bucket, while ordinary operating leases for space and equipment generally remain a go-forward expense of the business rather than a price deduction.
Customer deposits
Deposits are the small-business version of deferred revenue: a contractor's 30 percent down payment on a signed job, or refundable deposits on returnable assets like cylinders and kegs. Sellers argue the balance rolls over continuously and funds working capital. Buyers answer that if growth slows, refunds and fulfillment drain cash faster than new deposits arrive, and that the business is simply worth less when the cash is separated from the liability. The outcome usually depends on whether the balance is stable or lumpy.
How debt-like items surprise sellers at closing
The surprise follows a predictable script. The LOI states a price "on a cash-free, debt-free basis" in a single sentence and defines nothing; accounting-firm guidance on CFDF deals notes that the specifics are most often left out of the LOI entirely. The seller signs, grants exclusivity, and releases the other bidders. Sixty days later the buyer's quality of earnings work is done, and the first draft of the purchase agreement arrives with an "Indebtedness" definition running twenty clauses deep: accrued bonuses, unremitted sales tax, customer deposits, deferred revenue at face value, outstanding checks. Each item is defensible in isolation. Together they can move the price by more than the multiple negotiation ever did, and the seller now has no competing bidder to walk toward.
The published RSM US illustration of a CFDF settlement makes the stakes concrete: the same $45 million headline price produced closing proceeds of about $42.7 million under one set of cash and debt definitions and about $35.1 million under another. That is a swing of roughly $7.5 million, driven entirely by definitions settled after the headline price was agreed.
One more trap: double counting. A liability sitting inside the working capital calculation is already priced through the peg; if the buyer also lists it as debt-like, the seller pays for it twice. Every liability should live in exactly one bucket, and the purchase agreement should say which.
How sellers protect themselves
- Build the bridge before going to market. A sell-side quality of earnings analysis should include a debt and debt-like items schedule so nothing on the list is news to you.
- Define the contested items in the LOI. Naming the treatment of deferred revenue, taxes, deposits, and bonuses while competitive tension still exists costs a paragraph and can preserve six or seven figures.
- Clean up before closing. Settle related-party balances, pay down aged payables, remit collected sales taxes, and pay out earned bonuses on your own schedule rather than through a price deduction.
- Negotiate deferred revenue on cost to serve. Anchor on the buyer's actual cost of performing, not the face amount of the liability.
- Police the buckets. Reconcile the working capital exhibit against the indebtedness definition line by line so no liability appears in both.
- Compare bids at the equity value line. Two offers with the same enterprise value can produce very different wires.
The bottom line
Cash-free, debt-free is not a trick; it is the standard, sensible way to price an operating business. The risk sits in the unpriced gap between enterprise value and equity value, and in a definitions negotiation that usually starts after leverage ends. Sellers who build the bridge early, put the contested classifications in the LOI, and defend the line between working capital and debt-like items keep proceeds close to the headline. Bankerly.ai includes a debt and debt-like items schedule in its sell-side preparation for exactly this reason; whoever prepares your deal should do the same.
Sources
- RSM US LLP: Issues in Negotiating Cash-Free Debt-Free Deals (whitepaper)
- RSM US LLP: Issues in Negotiating Cash-Free Debt-Free Deals
- Kreischer Miller: Understanding the Importance of Debt and Debt-Like Items in an M&A Transaction
- Orrick: What Does “Cash Free / Debt Free” Mean?
- Divestopedia: Debt Free Cash Free (definition)
Frequently asked questions
- What does it mean when an offer is cash-free, debt-free?
- It means the price is for the operating business alone. At closing the seller keeps the company's cash and must pay off its debt, and the purchase price adjusts upward for cash delivered and downward for debt and debt-like items. The offer number is enterprise value; the seller's actual proceeds are equity value, calculated through the equity bridge written into the purchase agreement.
- What is the difference between enterprise value and equity value?
- Enterprise value is the value of the operating business independent of how it is financed, and it is the headline number in most letters of intent. Equity value is what owners actually receive for their shares: enterprise value plus cash, minus debt and debt-like items, plus or minus the working capital adjustment. The two can differ by millions when a company carries debt or debt-like liabilities.
- Is deferred revenue considered debt in an M&A deal?
- Often, at least in part. Deferred revenue is cash the seller collected for services not yet delivered, so buyers argue they inherit the obligation without the cash and push for a dollar-for-dollar price reduction. Sellers counter that low-cost subscription obligations belong in working capital. Many deals settle at a negotiated percentage of the balance tied to the buyer's actual cost of performing the remaining work.
- What are examples of debt-like items in a business sale?
- Common examples include deferred revenue, customer deposits, unpaid pre-closing income and sales taxes, capital or finance lease balances, accrued bonuses and commissions, accrued severance, unfunded pension or deferred compensation obligations, related-party payables, severely aged trade payables, legal settlement obligations, and unpaid transaction expenses. Each dollar classified as debt-like reduces the seller's proceeds dollar-for-dollar, so classification gets negotiated item by item.
- Does the seller keep the cash in the business when it sells?
- In a cash-free, debt-free deal, yes: the seller keeps cash on hand at closing, usually by sweeping accounts beforehand or taking a dollar-for-dollar credit in the price. But definitions matter. Restricted cash, customer deposits, outstanding checks, and foreign balances subject to repatriation tax are frequently carved out or reclassified, and the seller must still leave enough working capital to hit the negotiated target.
Considering a sale in the next few years? See what a prepared process looks like.
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