The M&A Deal Terms Founders Should Understand Before Signing an LOI
By Nirvikar Jain, Founder & Managing Partner, BayTech Capital Partners
A founder receives an acquisition offer for $50 million.
It sounds straightforward.
But does $50 million mean:
$50 million of enterprise value?
$50 million of equity value?
$50 million entirely in cash?
$40 million at closing plus a $10 million earn-out?
$35 million in cash plus $15 million of rollover equity?
$50 million before debt, working capital adjustments and transaction expenses?
These are very different outcomes.
One of the most important lessons for founders considering M&A is that the headline purchase price is only one part of the deal.
The Letter of Intent, or LOI, usually sets the commercial framework for the transaction. While many provisions remain subject to definitive documentation and diligence, the LOI is often the point at which negotiating leverage begins to shift.
Before exclusivity is granted, a founder may have several interested buyers.
After signing an LOI, particularly one with a no-shop provision, that leverage can change considerably.
Founders should therefore understand the economics and structure of the proposed transaction before signing the LOI, not after.
Here are the terms I believe founders should pay particular attention to.
1. Enterprise Value vs. Equity Value
This is one of the first distinctions founders should understand.
A buyer may say:
“We are offering $50 million for the company.”
But what exactly does that mean?
In many M&A transactions, the headline valuation refers to enterprise value.
A simplified bridge is:
Equity Value = Enterprise Value + Cash - Debt
Suppose the buyer offers:
Enterprise Value: $50 million
and the company has:
$3 million of cash
$8 million of debt
A simplified equity value would be:
$50M + $3M - $8M = $45M
That is before considering other adjustments.
Depending on the transaction, equity value may also be affected by:
Debt-like liabilities
Transaction expenses
Working capital adjustments
Unpaid bonuses
Deferred revenue
Taxes
Litigation exposure
Other negotiated items
This means founders should not ask only:
“What is the valuation?”
They should also ask:
“What is the expected amount available to shareholders at closing?”
2. Cash-Free, Debt-Free
Many private-company acquisitions are negotiated on a cash-free, debt-free basis.
In simple terms, the buyer is valuing the operating business independent of how much cash or debt happens to sit on the balance sheet.
The seller generally retains the benefit of excess cash and is responsible for paying off debt.
But the definitions matter.
What exactly counts as cash?
What counts as debt?
Certain items that founders may not think of as borrowing can sometimes be treated as debt-like items, including potentially:
Accrued transaction expenses
Unpaid bonuses
Certain leases
Deferred purchase consideration
Tax liabilities
Founder loans
Customer deposits
Other obligations
This is why the bridge from enterprise value to equity value deserves serious attention.
A $50 million enterprise-value offer can produce meaningfully different shareholder proceeds depending on these definitions.
3. Working Capital Adjustment
Working capital is one of the most misunderstood elements of an M&A transaction.
The basic idea is reasonable.
A buyer expects to acquire a business with a normal level of working capital required to operate the company.
Suppose a company's typical net working capital is $2 million.
If only $1 million is delivered at closing, the buyer may argue that it must inject another $1 million immediately after acquiring the company.
The purchase price may therefore be reduced by that shortfall.
Conversely, if working capital is above the agreed target, the seller may receive additional value.
The challenge is determining:
What is “normal” working capital?
The LOI may specify a methodology or leave the target to be determined later.
Founders should understand:
Which balance-sheet accounts are included
What historical period determines the target
How seasonal businesses are treated
Whether deferred revenue is included
How unusual receivables or payables are handled
Small definitional differences can translate into meaningful changes in proceeds.
4. Cash at Closing
A $50 million transaction is not necessarily a $50 million cash transaction.
Founders should understand exactly how consideration will be paid.
Possible forms include:
Cash
The most straightforward consideration.
Buyer Stock
Part or all of the consideration may be paid in shares of the acquiring company.
The value ultimately realized may therefore depend on the future performance and liquidity of those shares.
Rollover Equity
Particularly in private equity transactions, founders may reinvest a portion of their proceeds into the new ownership structure.
For example:
$40 million transaction
$30 million cash
$10 million rollover equity
The founder receives liquidity today while continuing to participate in future upside.
Earn-Out
Part of the consideration is paid only if specified future targets are achieved.
The economic certainty of these forms of consideration is very different.
Founders should look beyond the headline number and ask:
How much is guaranteed at closing?
5. Earn-Outs
Earn-outs are common when buyers and sellers disagree about future performance.
Suppose a founder believes the company is worth $60 million.
The buyer believes it is worth $45 million based on current performance.
They may agree on:
$45 million at closing + up to $15 million based on future milestones
That can bridge a valuation gap.
But earn-outs also introduce considerable complexity.
The founder should understand:
What metrics determine the earn-out?
Revenue?
EBITDA?
Customers?
Product milestones?
How long is the measurement period?
Who controls the business during that period?
Can the buyer change pricing?
Can it reduce marketing?
Can it allocate corporate costs?
Can it integrate the product into another division?
These questions matter because after closing, the seller may no longer control the decisions that determine whether the earn-out is achieved.
An earn-out should therefore not automatically be valued dollar-for-dollar with cash at closing.
A $10 million earn-out is a contingent $10 million, not necessarily a guaranteed $10 million.
6. Rollover Equity
Private equity buyers often ask founders or management teams to retain or reinvest a portion of their equity.
This can be attractive.
If a founder sells 80% of the company and rolls 20% into the next ownership structure, they may participate in what is sometimes called a second bite of the apple.
If the PE firm grows the company and later sells it at a significantly higher valuation, the rollover stake can become valuable.
But founders should understand what they are actually receiving.
Questions include:
What percentage will I own after the transaction?
What securities am I receiving?
Do they have the same economic rights as the PE sponsor?
Is my equity diluted by future management incentives?
Are there preferred returns?
What happens if additional capital is required?
What are my information rights?
When can I achieve liquidity?
What happens if I leave the company?
Rollover equity can be a powerful source of upside.
But it is still an investment and should be evaluated accordingly.
7. Escrow and Holdback
Buyers may retain part of the purchase consideration after closing to cover potential claims.
For example:
$50 million transaction
$47.5 million paid at closing
$2.5 million placed in escrow
If no qualifying claims arise during the agreed period, the remaining money is later released to shareholders.
Founders should understand:
How much is being held back?
For how long?
What claims can be made against it?
Are certain claims subject to separate caps?
Who controls disputes?
Even if the headline price is attractive, a large escrow can meaningfully reduce immediate liquidity.
8. Indemnification
The definitive acquisition agreement will usually contain representations and warranties regarding the company.
The seller may make statements about areas such as:
Financial statements
Intellectual property
Contracts
Taxes
Employees
Litigation
Compliance
Cybersecurity
Data privacy
If a representation proves inaccurate and the buyer suffers a loss, the buyer may seek indemnification.
Important concepts include:
Cap
The maximum liability shareholders may have for certain claims.
Basket
The level of losses that must generally be exceeded before claims become payable.
Survival Period
How long representations remain subject to claims after closing.
Fundamental Representations
Certain representations - such as ownership or authority - may have longer survival periods or higher liability caps.
Many transactions today also use Representations and Warranties Insurance, which can reduce the extent to which sellers remain directly exposed after closing.
These are heavily negotiated legal provisions, and founders should rely on experienced M&A counsel.
But they should understand the economic consequences.
9. Exclusivity
This may be one of the most consequential provisions in an LOI.
A buyer may say:
“We will invest significant resources in diligence, but we need 60 days of exclusivity.”
That means the seller generally agrees not to solicit, negotiate or pursue alternative transactions during that period.
From the buyer's perspective, this is understandable.
From the founder's perspective, exclusivity changes the balance of negotiating power.
Before exclusivity:
Several buyers may be competing for the company.
After exclusivity:
One buyer effectively controls the process.
This is why sellers should ideally resolve major commercial issues before granting exclusivity.
Founders should pay attention to:
Length of exclusivity
Automatic extensions
Conditions for extension
Whether the buyer has financing
Remaining diligence requirements
Whether material commercial issues remain unresolved
A short, well-defined exclusivity period may be reasonable.
An open-ended process can become problematic.
10. Financing Contingency
A founder may believe the company has been sold only to discover that the buyer still needs to obtain financing.
This is particularly relevant for leveraged acquisitions.
The LOI should make clear whether the transaction depends on:
Debt financing
Equity financing
Investment committee approval
Board approval
Third-party consents
A highly attractive price with uncertain financing may not necessarily be better than a slightly lower but highly certain offer.
Price and certainty both matter.
11. Employee and Management Treatment
Founders often focus understandably on shareholder proceeds.
But management and employees may also materially affect whether a transaction succeeds.
The LOI may address:
Founder employment
Management retention
Employee bonuses
Equity acceleration
New option plans
Retention packages
Non-competes
Consulting arrangements
In a founder-led technology business, the buyer may view management retention as central to the value of the acquisition.
Founders should therefore understand where the interests of:
shareholders, management and employees
are aligned - and where they may differ.
12. Founder Employment and Non-Compete Terms
A founder may sell the company but still be expected to stay for several years.
Key employment terms can include:
Role
Title
Reporting line
Compensation
Bonus
Equity
Employment duration
Termination rights
Non-compete
Non-solicitation
Vesting
This is important because the founder may be negotiating two transactions simultaneously:
The sale of their shares
Their future employment relationship
Those should be considered separately.
A great price combined with a role the founder has no desire to perform may not produce a great outcome.
13. Closing Conditions
Signing an LOI does not mean the transaction is closed.
Even signing a definitive agreement may still leave closing conditions.
These may include:
Regulatory approval
Shareholder approval
Third-party consent
Financing
Customer consent
Employee agreements
Completion of diligence
Absence of a material adverse change
Founders should understand what could still prevent the transaction from completing.
This is especially important if the company has already announced the deal internally or changed its operating plans in anticipation of closing.
14. What Happens to Existing Investors and Preferred Stock?
Venture-backed technology companies may have multiple classes of securities.
The headline acquisition price does not necessarily get divided among shareholders according to simple percentage ownership.
Preferred investors may have:
Liquidation preferences
Participation rights
Conversion rights
Seniority over other classes
For example, a company may sell for $50 million, but the proceeds may be distributed very differently depending on the rights attached to previous financing rounds.
Founders should model the waterfall before signing an LOI.
The relevant question is:
What does each shareholder actually receive under this transaction?
15. Price Is Not the Same as Value Realized
Consider two offers.
Buyer A
$60 million headline price
$45 million at closing
$10 million earn-out
$5 million escrow
Buyer B
$55 million headline price
$53 million at closing
$2 million escrow
No earn-out
Which is better?
There is no automatic answer.
But the $60 million headline offer is not necessarily economically superior.
Founders should compare offers across:
Cash at closing
Contingent consideration
Rollover equity
Escrow
Working capital mechanics
Financing certainty
Closing risk
Employment obligations
Tax implications
Timing
A useful concept is:
Risk-adjusted proceeds, not just headline valuation.
What Should Be Resolved Before Signing the LOI?
Not every provision can or should be fully negotiated at the LOI stage.
But founders should try to establish clarity around the major economic and structural terms.
At a minimum:
Headline enterprise or equity value
Cash versus stock consideration
Earn-out structure
Rollover equity
Treatment of cash and debt
Working capital methodology
Escrow or holdback expectations
Management treatment
Financing requirements
Exclusivity period
Expected timeline
Key closing conditions
The more ambiguity that remains when exclusivity begins, the more difficult it may become to negotiate those points later.
The LOI Is Where Leverage Can Shift
Imagine three buyers are interested in your company.
Buyer A offers $45 million.
Buyer B offers $48 million.
Buyer C offers $50 million.
The founder signs Buyer C's LOI and grants 60 days of exclusivity.
During diligence, Buyer C raises questions about:
Customer concentration
Working capital
EBITDA adjustments
IP
Retention
The proposed economics begin changing.
But Buyers A and B are no longer actively competing.
This illustrates why founders should not treat the LOI as a ceremonial step before the "real negotiation."
The LOI is part of the real negotiation.
Frequently Asked Questions
Is an LOI legally binding?
Typically, many commercial terms in an M&A LOI are non-binding, while certain provisions - particularly confidentiality, exclusivity, expenses and governing law - may be binding. The exact language matters, so founders should have M&A counsel review the document.
Should founders negotiate the LOI?
Yes. The LOI often establishes the major commercial framework of the transaction and may determine the seller's negotiating leverage once exclusivity begins.
What is the difference between enterprise value and equity value?
Enterprise value reflects the value of the underlying operating business. Equity value adjusts for items such as cash and debt and is closer to the amount attributable to shareholders before other transaction adjustments.
Is an earn-out part of the purchase price?
Yes, but it is contingent consideration. The founder receives it only if the agreed conditions or performance milestones are achieved.
How long should exclusivity last?
There is no universal period. The appropriate length depends on diligence requirements, transaction complexity and buyer readiness. Sellers generally benefit from a defined period rather than open-ended exclusivity.
Can the purchase price change after signing an LOI?
Yes. Most LOIs are subject to diligence and definitive documentation. Issues discovered during diligence can lead buyers to seek changes in valuation, structure or other terms.
Founders Should Negotiate the Outcome, Not Just the Valuation
Receiving an acquisition offer can be exciting.
A headline valuation is naturally the first number everyone notices.
But the economic outcome of an M&A transaction depends on far more than the number at the top of the LOI.
Founders should understand:
How much is paid at closing?
How much is contingent?
What adjustments can reduce proceeds?
What risks remain after closing?
What happens to employees and management?
And what negotiating leverage is being surrendered when exclusivity begins?
The best transaction is not necessarily the one with the highest headline price.
It is the transaction that provides the best combination of:
value, certainty, structure and fit.
And much of that is determined before the definitive purchase agreement is ever drafted.
About the Author
Nirvikar Jain is Founder and Managing Partner of BayTech Capital Partners, a Palo Alto-based investment banking and strategic finance advisory firm focused on technology companies. His experience spans global banking, technology, startups, M&A, capital raising and strategic finance.
BayTech Capital Partners works with founders, boards and management teams on M&A, capital raising, valuation, investor readiness and strategic finance.
Evaluating an acquisition offer or preparing for an M&A process?
Contact - nirvikar@baytechcapital.com
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This article is provided for general informational purposes only and does not constitute investment, legal, accounting, regulatory, tax or valuation advice. Transaction terms are fact-specific, and founders should consult qualified legal, tax and financial advisers.
Securities products and investment banking services are offered through BA Securities, LLC, Member FINRA/SIPC. BayTech Capital Partners LLC and BA Securities, LLC are separate, unaffiliated entities.
