Under a locked-box mechanism, the economic transfer date precedes closing (the legal transfer): the purchase price is already fixed before the shares are actually delivered. With a closing accounts mechanism, the economic and legal transfers coincide, and the purchase price is not finalized until after closing, based on the current acquisition balance sheet. In the Netherlands, the locked box method is the standard practice; abroad, the closing accounts method is more commonly used.
A business acquisition has a number of key moments. Two of them are the date of economic transfer and the closing date. Those two moments can coincide. But often they do not. In both cases, different mechanisms come into play. We call them closing accounts and locked box, respectively. And here's what you need to know about them.
Let’s go back to those two key moments. We distinguish between the date of economic transfer and the closing date. The first refers to the moment when the company (in an economic sense) becomes the buyer’s responsibility and risk. The closing date is the moment when legal ownership is transferred. This often occurs when the shares are delivered at the notary’s office. From that moment on, the buyer is truly in charge.
When these two moments coincide, we refer to a closing accounts mechanism. If the legal transfer (closing) occurs after the economic transfer, then it’s a locked box mechanism. Both influence the acquisition process and the decisions you make as a buyer or seller. Fun fact: in the Netherlands, we usually use the locked-box approach, whereas abroad, closing accounts is the norm. But don’t let that influence your decision.
What are the differences between a locked box and closing accounts?
First, let's look at the differences. The following diagram shows where the mechanisms differ.
Locked box mechanism
Economic transfer date
This is before the legal transfer date (closing date). Often retroactive to January 1 of the year in which the closing takes place.
Acquisition Balance Sheet
With a locked box, the acquisition balance sheet is ready before closing. It can therefore be reviewed as part of the due diligence process.
Cash, debt and working capital
A previous article outlined the importance of (the calculation of and agreements on) cash, debt and net working capital in an acquisition. This calculation takes place on the acquisition balance sheet and can therefore be completed before closing.
Valuation
Because there are different economic transfer moments, the valuation is also different.
Purchase price
All elements for the purchase price determination are definitively known before closing. The exception to this are any earn-out outcomes. Of course, there are guarantees to be given by a seller.
Bridge Period Between the Economic Transfer Date and the Legal Transfer Date (Closing)
Because these are two different points in time, there is a bridging period. During this period, the profits and risks already lie with the buyer retroactively. This does not apply to control. For this reason, the following types of agreements are typically made:
- Agreements on maximum withdrawals by seller during that period (not only dividends, but also rewards and other pass-throughs).
- Agree on an appropriate interest rate on the purchase price for seller, since payment is not made until closing. This is an outcome of negotiation.
- Agree on key decision-making at the company during that bridging period.
Closing accounts mechanism
Economic transfer date
This is the same as the legal transfer date (closing date).
Acquisition balance sheet
The acquisition balance sheet is not ready until after closing. It is therefore not reviewed until after that. This also applies to negotiations about any findings from it.
Cash, debt and working capital
These final calculations - often fodder for discussion - can only take place after obtaining the acquisition balance sheet after closing date.
Valuation
Because there are different economic transfer moments, the valuation is also different.
Purchase price
Because the final acquisition balance sheet and developments up to closing date still play a role in the final purchase price determination, the purchase price as of the closing date is still provisional. The final determination only takes place after closing.
Bridging between economic transfer date and legal transfer date (closing)
Because both moments coincide, agreements such as locked box are not necessary. An interest payment only covers any difference between the provisional and final purchase price.
What are the pros and cons of locked box and closing accounts?
So much for the differences. But are there advantages or disadvantages to either mechanism? There are. Biggest advantage of a locked box mechanism is that the purchase price is final at the actual notarized transfer. This is different with a closing accounts mechanism. Here the calculation of the purchase price extends over the period after the transfer. And that includes all possible discussions about it.
All the more reason to lay down extensive calculation and process agreements in the purchase contract for the closing accounts form. This often makes this form of transaction more laborious and therefore more expensive. Yet a locked box mechanism also has disadvantages. You will have to make very good agreements about the bridging period. Also consider the calculation of an appropriate interest rate on the purchase price.
Which form is most appropriate?
Which option is most suitable for the buyer or seller always depends on the specific circumstances. Key factors include, for example, the length of time between the economic transfer and closing, the availability of reliable information, and the risk profile.
But so do the negotiation outcomes when it comes to the contractual elaboration and calculation of valuation, cash/debt/net working capital and interest. Because of these and other complexities, it is more than wise to always seek proper advice.
Frequently Asked Questions
What is the difference between a locked box and closing accounts?
With a locked box, the economic transfer date precedes the closing date, and the purchase price is already fixed prior to closing. With closing accounts, the economic and legal transfers occur simultaneously, and the purchase price is not finalized until after closing.
What is a locked-box mechanism in a business acquisition?
A mechanism in which the acquisition balance sheet is ready before closing and the purchase price (barring any earn-outs) is definitively fixed before the shares are legally transferred.
What is a closing accounts mechanism in a business acquisition?
A mechanism whereby the acquisition balance sheet is not prepared until after closing, meaning that the purchase price is still provisional as of the closing date and is only finalized afterward.
Which mechanism is commonly used in the Netherlands?
In the Netherlands, a locked-box mechanism is typically used, while closing accounts are more common abroad.
What are the pros and cons of a locked box compared to closing accounts?
A locked box provides earlier certainty regarding the purchase price, but requires clear agreements regarding the bridge period and interest. Closing accounts is often more labor-intensive and expensive due to the calculations and discussions after closing, but it better reflects the actual figures at the time of transfer.
