Summarise Locked Box Provisions

You are an M&A solicitor in England and Wales reviewing a Share Purchase Agreement (SPA) governed by English law with a locked box pricing mechanism.

Please analyse the locked box provisions and provide a structured summary:

**1. Locked Box Mechanics**
- What is the **locked box date**? (e.g., "30 September 2025")
- What are the **locked box accounts**? (e.g., "Management accounts as at 30 Sept 2025")
- What is the **purchase price** based on these accounts?
- When is **completion** expected? (to calculate the locked box period)

**2. Leakage Definition**
- How is "leakage" defined in the SPA?
- Does it include:
  - Dividends and distributions to shareholders?
  - Management bonuses or incentive payments?
  - Intercompany loans to seller affiliates?
  - Payment of seller transaction costs?
  - Related party transactions?

**3. Permitted Leakage**
- What leakage is **expressly permitted** without triggering indemnity?
- List each category of permitted leakage with any monetary caps or conditions
- Common categories to look for:
  - Ordinary course dividends (up to £X per year)
  - Director salaries and bonuses (market rate)
  - Payment of transaction costs (up to £Y)
  - Specific one-off payments agreed at signing
  - Monitoring or management fees payable to the seller's group

**4. Seller Obligations**
- What must sellers do/not do to prevent leakage?
- Are there any positive covenants? (e.g., "Maintain working capital at £X")
- Are there negative covenants? (e.g., "Not declare any dividends")

**5. Leakage Indemnity**
- If leakage occurs, what is the remedy?
  - Pound-for-pound indemnity (seller pays buyer the leakage amount)?
  - Purchase price reduction?
  - Warranty claim subject to limitations?
- Is the leakage indemnity:
  - Uncapped?
  - Not subject to de minimis/basket?
  - Free of any contractual time limit?

**6. Locked Box Adjustments**
- Are there any permitted adjustments to the locked box accounts post-signing?
- Who prepares the final locked box accounts?
- Is there an independent accountant dispute resolution process?

**7. Buyer Protections**
- Does buyer have information rights to monitor leakage during the locked box period?
- Can buyer conduct "leakage due diligence" before completion?
- Are there any warranties specifically covering the locked box accounts?

**Flag any unusual or buyer-unfavourable terms:**
- Broad permitted leakage categories
- High monetary caps on permitted leakage
- Weak seller covenants
- Leakage indemnity subject to basket/cap (should typically be uncapped)
- Long locked box period (more than 6 months increases leakage risk)

[PASTE SPA SECTIONS ON: PURCHASE PRICE, LOCKED BOX, PERMITTED LEAKAGE, LEAKAGE INDEMNITY, SELLER COVENANTS]

Extraction: Pulls all locked box-related provisions from pricing, leakage, and covenant sections

Mechanistic explanation: Clarifies how the locked box works (date, accounts, price)

Leakage analysis: Identifies what's permitted vs prohibited leakage

Risk assessment: Flags broad permitted leakage categories that reduce buyer protection

Remedies clarity: Explains what happens if leakage occurs

Paste the following SPA sections:

• Purchase price and payment mechanics clause
• Definition of "Leakage" (usually in definitions or pricing schedule)
• "Permitted Leakage" schedule or clause
• Leakage indemnity/warranty provisions
• Seller covenants (especially any prohibiting dividends, distributions, related-party transactions)
• Locked box accounts preparation/dispute resolution

The AI will produce something like:

Locked Box Mechanics

• Locked Box Date: 31 March 2026
• Locked Box Accounts: Audited statutory accounts as at 31 March 2026
• Purchase Price: £50 million (equity value) based on locked box accounts
• Expected Completion: 30 June 2026
• Locked Box Period: 3 months (31 March to 30 June) - [NOTE: Standard length]

Leakage Definition (Clause 3.2)

Leakage means any distribution, payment, or transfer of value from the Company or any Subsidiary to:

• Any Seller or their affiliates
• Any director, officer, or employee who is a Seller
• Any related party of a Seller

Includes: ✓ Dividends and distributions ✓ Share buybacks ✓ Bonuses and incentive payments (above market rate) ✓ Intercompany loans ✓ Payment of Seller transaction costs ✓ Waiver or forgiveness of debts owed to the Company

Permitted Leakage (Schedule 4)

1. Ordinary Course Dividends

• Up to £500,000 in aggregate between locked box date and completion
• [FLAG: High cap - Company's historic annual dividend was £200K, so this permits 2.5x normal run rate]

2. Director Salaries

• Salaries at rates set out in Schedule 4, Part B (no increases permitted)
• [NOTE: Standard - locks in current salaries]

3. Management Bonuses

• Up to £100,000 in aggregate for FY2026 annual bonuses payable in June 2026
• [NOTE: Reasonable if consistent with prior year bonuses]

4. Transaction Costs

• Seller's legal, financial, and tax advisory fees up to £300,000
• [NOTE: Standard - seller bears own transaction costs]

5. Monitoring Fees

• Annual monitoring fee payable to the Sellers' investment manager under the existing investment agreement
• No monetary cap
• [FLAG: Uncapped monitoring fees create risk if the fee is increased or accelerated before completion]

6. Specific Payments

• Repayment of £1.5M shareholder loan from SellerCo (listed in Schedule 4, Part C)
• [FLAG: Large one-off payment - ensure this is reflected in locked box accounts/enterprise value calculation]

Leakage Indemnity (Clause 3.4)

• Remedy: Sellers jointly and severally indemnify Buyer for full amount of any non-permitted leakage
• Cap: UNCAPPED (not subject to general £5M cap on warranty claims)
• Basket: NONE (no de minimis or threshold)
• Time limit: 7 years from completion
• [NOTE: Strong buyer protection - uncapped, no basket and a long time limit]

Seller Obligations (Clause 8)

Negative Covenants (prohibited actions between signing and completion):

• No dividends or distributions except as permitted leakage
• No payments to related parties except in ordinary course
• No increase in director/employee remuneration
• No shareholder loans or advances

Positive Covenants:

• Maintain net working capital at minimum £2M
• [NOTE: Working capital floor protects against value erosion]

Red Flags / Negotiation Points

🚩 Permitted ordinary course dividends of £500K is HIGH - historic dividend was £200K/year, so this permits significant leakage

🚩 Uncapped monitoring fees - without a cap, fees could be increased or accelerated before completion

🚩 £1.5M shareholder loan repayment - ensure this is baked into enterprise value calculation; otherwise buyer is overpaying

✅ Leakage indemnity is uncapped and has no basket - good buyer protection

✅ 3-month locked box period is reasonable - not excessively long

• Check Permitted Leakage vs Financial DD - Cross-check permitted leakage items against DD reports and EV bridge
• Locked Box vs Completion Accounts - Understand the two main pricing mechanisms and their trade-offs

Practice Area: Corporate & M&A Document Type: Share Purchase Agreement (SPA) Difficulty: Intermediate Estimated Time: 20 minutes