Corporate Law in Bite Size Chunks: Locked box vs completion accounts

What is a 'locked box'?

A locked box fixes the price by reference to the balance sheet of the target at a point before completion (the “locked box date”). This is done on the condition that, before completion, the seller will not have extracted any value from the target (commonly called "leakage") unless the leakage is "permitted leakage". For example, ordinary course salaries or one-off matters, like dividends, which are considered in setting the price.

You might wonder how the seller gets value for profit generated by the target between the Locked Box Date and completion.  The answer is that a "profit ticker" is often used to remedy this. This involves a negotiated value per day being added to the lockbox price to give the seller the benefit of trading until completion. This Profit Ticker might be set at an interest rate on the locked box price. Alternatively, it could approximate the daily profit expected to be earned between the locked box date and completion.

What are completion accounts?

Completion accounts set a provisional price at signing by reference to the likely balance sheet of the target at completion. After completion, detailed accounts are prepared to reflect the actual financial position at closing. The price is then adjusted based on items such as cash, debt and working capital as at completion.

Practical comparison

• Certainty of price: Locked box deals offer early price certainty, while completion accounts can lead to post-closing adjustments and accounting debates over the target's balance sheet at completion.
• Risk allocation: The locked box places risk on the buyer considering (a) trading post the locked box date, and (b) recovering from the seller if there is leakage, which was not "permitted leakage".  Completion accounts leave this trading risk with the sellers.
• Due diligence: Locked box requires more thorough financial due diligence on the target's balance sheet.  Completion accounts allow buyers to be a bit more relaxed, as they get an opportunity to review accounting records after completion before the price is finally set.
• Complexity and cost: Locked box transactions are often simpler and give rise to less disputes.

Which mechanism is right for you?

The choice depends on which side of the deal you are on. Typically, provided that there is a reasonable daily profit ticker, sellers are more likely to favour a locked box approach. This is because there is less risk of disputes post completion. A buyer, however, may be concerned about a locked box approach, as it will need to agree a price at a time before it has had unrestricted access to the target's accounting records.

We see both approaches adopted. Locked box is more likely to be promoted on auction sale processes, particularly where there is a private equity seller that is keen to get price certainty before the deal is signed.

This article was authored by Ali Zaghloul, Trainee Solicitor.