Pre-Closing Covenants in Share Deals: Seller Obligations and Key Risks

5.5.2026 | ARROWS law firm

Between signing the share purchase agreement and completion of the transaction (closing), there is a period full of legal obligations. The seller’s commitments during this transitional period—so-called pre-closing covenants—determine whether the transaction proceeds as planned. Many business owners are unaware of the risks involved in breaching covenants, or of how their scope may go beyond initial expectations. This article explains what covenants are, what pitfalls await the seller, and how to ensure the transaction does not tie your hands and does not have negative consequences.

The illustrative image shows a specialist addressing pre-closing covenants.

What pre-closing covenants are and why you must not forget them
The most common categories of covenants and their practical impact
Materiality and exceptions (outbound) – how not to tie your hands
Typical risks and seller failures
How to protect yourself – practical steps for the seller

Quick summary

Pre-closing covenants are binding promises made by the seller, applicable from signing the agreement until closing, and affecting the company’s operations, finances, legal status, and reputation.
A breach of covenants may lead to a delay or cancellation of the transaction, litigation, and the buyer’s claims for damages and interest.
The most common mistakes are covenants drafted too broadly, unrealistic promises about the future, and the absence of specific exceptions that protect the owner.
Protection is negotiated upfront – clear wording, exceptions (so-called outbound carve-outs), a materiality threshold, and realistic conditions are key to ensuring the seller remains in control.

What pre-closing covenants are and why you must not forget them

Pre-closing covenants are legal obligations that the seller undertakes to comply with vis-à-vis the buyer between signing the share purchase agreement and closing the transaction. In Czech, they are also referred to as “the seller’s obligations” or “interim undertakings”, but the English term covenant is widely used in legal practice.

Their purpose is simple: the buyer is concerned that the situation in the target company may change for the worse between signing and closing. The owner could let key employees go, sell important assets, encumber the property with a mortgage, borrow significant amounts, or simply stop taking care of the business.

That is why the buyer says: “You promise me that you will run the company as you have so far, that you won’t mess anything up, and that you will hand it over to me in the condition in which I chose it.”

The seller then typically undertakes to operate the company in the ordinary course of business. When setting these rules in practice, legal support for company sales and transaction advisory usually helps to ensure that “ordinary course” is not just a vague phrase without clear boundaries. Further, the seller undertakes to take only remuneration necessary for ordinary operations, but not to withdraw dividends or other payouts recklessly, and not to sell or encumber assets without the buyer’s consent.

Other undertakings include not changing key insurance coverage, complying with applicable regulations, and not breaking the law. The seller will also retain key personnel and prevent new disputes or scandals from arising.

It sounds reasonable, but in practice these promises often turn into traps that an owner can easily fall into.

The most common categories of covenants and their practical impact

1. Operational covenants – the company’s ordinary operations

These include undertakings to run the company in the usual manner, without fundamental changes. It sounds general, but that is precisely where the danger lies.

Practical example: During the interim period, the owner finds that the company is short of cash. They decide to pay themselves an additional CZK 500,000 or take a loan from the company without formally signing a loan agreement.

The buyer finds out (for example, from the auditor’s report) and immediately accuses the seller of breaching the covenants. They argue that the seller should have kept only their ordinary salary and that the unusual cash withdrawals weaken the company’s market value. In this context, it is also useful to know the typical triggers buyers use during their review – they are summarised in the article How to prevent the buyer from driving down the company’s price during due diligence: What affects value from a legal perspective.

Such a breach may be grounds for a reduction of the purchase price, transaction insurance (e.g., W&I insurance) may be jeopardised, and the seller finds themselves in a legal and financial grinder. The same can happen if, during the interim period, the owner introduces a new technology the buyer does not want, or dismisses an employee who was key for the buyer.

2. Negative covenants – what you must not do

These include prohibited actions: you must not enter into long-term contracts without consent, you must not take on new loans, you must not change accounting policies, you must not change insurance coverage, etc.

Practical example: During the interim period, the owner takes out a mortgage over the company’s real estate to repay personal debt or invest.

Even if, from their personal perspective, it is legally fine to borrow money, the buyer saw in the covenants a promise that the assets would not be encumbered. A court then has to decide whether this is a breach or not – and in the meantime the transaction becomes complicated or is put at risk. If a dispute over the interpretation of covenants escalates, it is also necessary to consider procedural strategy within commercial and litigation disputes, because timing impacts can be decisive for the transaction.

3. Affirmative covenants – what you must actively do

For example, maintain valid insurance, comply with licensing conditions, continue paying taxes, or inform the buyer of certain facts.

Practical example: The owner forgets that they have an obligation to inform the buyer within 48 hours (if such a deadline is agreed in the contract) if a legal dispute arises.

The dispute comes to light later and an unclear situation arises. The buyer argues that if they had known earlier, they could have handled the matter differently, and now they can no longer obtain insurance that would protect them. The seller then has to explain that it was not material, but lawyers are already watching them from every corner.

Materiality and exceptions (outbound) – how not to tie your hands

One of the most important points when negotiating covenants is the materiality threshold – i.e., the threshold of significance from which a breach is counted.

Not every breach is truly a breach that should lead to sanctions. The practical impact of the materiality threshold on the purchase price (including adjustments such as working capital or a pre-closing dividend) is also discussed in the text Pre-closing dividend and working capital adjustment: How to set the purchase price correctly?. If the owner takes CZK 50,000 more than they should have, and the company has an annual profit of CZK 20 million, it is negligible. The buyer should know that ordinary operations include minor irregularities.

Exceptions (so-called outbounds) are items negotiated in advance and carved out from the covenants. Typically, these include the owner’s ordinary salary and benefits (so that they are not financially disadvantaged).

Other exceptions include unplanned but necessary repairs and maintenance, routine industry litigation, and transactions in line with the existing budget. This also includes fulfilling legal and tax obligations.

If the exceptions are not clearly negotiated at the outset, you become a hostage to interpretation. Lawyers will then argue about what was meant by “ordinary” or “necessary”.

Typical risks and seller pitfalls

Potential issues	How ARROWS helps (office@arws.cz)
Covenants drafted too broadly without specific exceptions – the owner later does not know what they may and may not do	We will set clear covenant wording with specific exceptions (outbounds), a materiality threshold, and examples so the situation is unambiguous and the owner clearly understands what conduct is permitted.
The owner breaches a covenant and realises it too late, and the transaction collapses or is delayed	We will ensure ongoing covenant monitoring, oversee that breaches are addressed in time, and negotiate with the buyer on remediation or compensation options.
The buyer interprets the covenant differently and unilaterally deducts an amount from the purchase price	We will represent you in negotiations with the buyer and their lawyers, defend your interpretation and ensure there are no unilateral deductions without a legal basis.
Uncertainty about what falls under operating commitments and what does not (purchases, investments, staffing changes)	We will prepare detailed checklists and procedures that clearly define which step is acceptable and which is not, and what documentation you must keep as evidence.
A dispute over whether the breach was material and whether it gives the buyer the right to reduce the price or terminate the transaction	We will provide legal advice in negotiations and defence, including expert opinions, to demonstrate that the breach was not material or that no breach occurred.

How to protect yourself – practical steps for the seller

Step 1: Negotiate specific wording in advance

Do not accept vague language. The covenant should read like this:

Bad: "The Seller will operate the company in the ordinary course."

Good: "The Seller will operate the company in accordance with historically customary practice, including routine purchases of materials and maintenance of equipment up to CZK 200,000. The Seller will also maintain ordinary communication with customers and maintain insurance coverage at the same level."

Without the buyer’s consent, the Seller will not sell assets with a value exceeding CZK 500,000, enter into new long-term contracts for a term longer than 12 months, dismiss employees in key roles, or change prices by more than 10% compared to historical pricing. In the second example, the owner knows what is permitted.

Step 2: Clearly define the materiality threshold

Agree on a percentage. Typically, it is then accepted that covenant breaches below this threshold do not automatically accumulate (at least not without clarification).

Example: If you agree that materiality is 2% of the company’s EBITDA and EBITDA is CZK 10 million, then breaches up to CZK 200,000 may not need to be treated as material, whereas breaches in the range of CZK 500,000 would.

Step 3: List specific exceptions (outbounds)

Write down all situations that should be addressed under the covenants but that you would need to carry out in the ordinary course of business. For example:

The owner will take a monthly salary of CZK X thousand and a December bonus of CZK Y thousand, as has historically been customary. Routine maintenance and repairs of equipment up to CZK 300,000 per item without special consent.

Also, opening ordinary bank accounts and maintaining ordinary cash on hand. Purchasing insurance coverage as recommended by the existing insurer, even if the premium increases by more than 10%.

Step 4: Maintain documentation and communication

During the interim period, keep detailed records of everything you do:

Record when you took salaries and why, which purchases or investments you made (in compliance with the covenants), how operations developed, and what the routine transactions were.

If you agree with the buyer on something that could be borderline under the covenants, write a short confirmation email—the buyer will reply or remain silent. Later, this serves as evidence that you had consent.

Step 5: Communicate transparently with the buyer

Do not conceal anything. If a situation arises that you did not include in the exceptions (such as an unplanned repair), inform the buyer proactively and explain why. Do not expect anyone to overlook it or that it will have no impact. Transparency eliminates later surprises and disputes.

Final summary

Pre-closing covenants are not just pieces of paper. They are legally binding promises, and breaching them can cost you tens or hundreds of thousands of Czech crowns—through a reduction in the purchase price, litigation, a blocked transaction, or worse.

Effective protection lies in preparation before signing the agreement. If you negotiate clear wording, specific exceptions, and realistic limits in advance, you reduce the risk of conflicts and stressful situations. During the interim period, it is then enough to be disciplined, document everything, and communicate transparently with the buyer.

Many owners think they do not need to care about covenants because it is a matter for lawyers. However, it is important to realise that it is the owner who bears the risk of a breach. Lawyers then often have to represent them in court only when it is too late.

If you want to ensure the transaction does not tie your hands and that you can go through it without fear, contact the attorneys at ARROWS, a Prague-based law firm. We will advise you on how to negotiate covenants so that they protect you as well. Email us at office@arws.cz.

FAQ - Most common questions on pre-closing covenants

1. What is the difference between a covenant and a standard obligation in a share purchase agreement?
A covenant is an obligation that applies over a certain period of time (for example, during the interim period) and often relates to future conduct or the future state of affairs. A standard obligation in a share purchase agreement is, for example, “the seller represents and warrants that all agreements are valid and enforceable” – this is a statement about the past or the present (so-called representations and warranties). A covenant is more like “the seller undertakes that during the interim period it will not change the insurance coverage without consent” – this concerns future conduct. That is why it is important to distinguish between them and to know what obligations you have during the period between signing and closing.

2. How many covenants are typically included in a share purchase agreement?
It depends on the complexity of the transaction. In a simple small-business transaction, there may be only 3–4 covenants. In a more complex transaction with multiple activities or regulatory elements, there may be dozens. Each covenant should be clear and specific. The attorneys at ARROWS, a Prague-based law firm, will help you select only those covenants that are truly necessary and that will not restrict you unnecessarily.

3. Can I agree with the buyer that the covenants will change between signing and closing?
In principle, yes, but it should be formally recorded in an amendment to the share purchase agreement. Never agree informally, one-on-one. The amendment should be drafted by lawyers and signed by both parties. Otherwise, the buyer may later claim that no agreement was reached, leaving you in a difficult evidentiary position. The attorneys at ARROWS, a Prague-based law firm, will ensure that every change is properly documented.

4. What if I am not sure whether a specific activity breaches a covenant?
Stop and communicate with the buyer. Write a short email: "I am considering purchasing new equipment worth CZK 250,000. In my interpretation, this falls under ordinary maintenance. Would this be in compliance with the covenants?" Keep the reply. Or contact the lawyers at ARROWS, a Prague-based law firm, immediately at office@arws.cz – we will advise you on how to interpret it correctly.

5. What is the most common reason a transaction collapses due to covenants?
Most often, it is because the owner takes money or assets during the interim period that they should not. Whether done knowingly or unknowingly, the buyer will discover it and will either demand a price reduction or terminate the transaction. The second most common reason is that the owner takes out a loan or encumbers assets without consent. The third is that a key employee leaves in breach of the covenants. All of these situations are often foreseeable and can be addressed in advance – which is precisely why good agreements with clear covenants are so important.

6. What happens if the buyer breaches its obligations during the interim period and I am unable to comply with the covenants?
This is a more complex situation. If the buyer is breaching its obligations (for example, not providing agreed information or blocking operations that are compliant with the covenants), you should notify its lawyers. If the situation does not change, you may argue that you cannot comply with the covenants because the buyer is making it difficult for you to operate. The attorneys at ARROWS, a Prague-based law firm, will help you document the buyer’s breach of obligations, which can then serve as your defence. Email us at office@arws.cz.

7. Can I buy new office furniture or software during the interim period?
It depends on the covenant. If you agreed that routine maintenance and upgrades fall within operating expenses, then yes – but it should be consistent with historical practice and it should be documented. If you agreed that no major investments may be made without consent, then no. That is why it is important to clarify these boundaries in advance. The attorneys at ARROWS, a Prague-based law firm, can help you negotiate clear limits.

8. What happens if a key employee falls ill during the interim period and I have to replace them?
If replacement is standard practice and you do not have a covenant that prohibits hiring, you should be fine. However, notifying the buyer in a timely manner is a wise step in any case. If you feel it could be problematic, we can negotiate an exception already when signing the share purchase agreement.

9. How long does it take me to realise that I have breached a covenant, and is it too late to remedy it?
Often several months – for example, when the buyer discovers during due diligence that you took out a loan without consent, or that you sold off a certain asset item. That is why monitoring is key. The attorneys at ARROWS, a Prague-based law firm, can advise you on how to continuously check compliance with the covenants and what to do if an issue arises.

10. Can the buyer terminate the transaction solely on the basis of a breach of covenants?
Yes, if it is stated in the share purchase agreement as a reason for a “material adverse change” (MAC) or “failure of a closing condition”. Terminating a transaction due to a breach of covenants is usually a more serious matter – the buyer must prove that it was a material breach or that the seller’s conduct was contrary to the share purchase agreement. The attorneys at ARROWS, a Prague-based law firm, will help you interpret whether the buyer itself breached its obligations and whether it has the right to terminate.

11. What if both parties agree that we want to breach a covenant because the situation has changed?
Then you can agree on an amendment to the share purchase agreement – but it should be in writing and signed by both parties. Never agree only verbally. And be careful: the buyer may then use the fact that you breached the covenant and it consented as a reason for a lower valuation or a price reduction. That is why even “agreed breaches” must be covered in writing and ideally also by some form of compensation or waiver.

12. What are the consequences of breaching covenants for subsequent transactions if we terminate this transaction?
If the transaction collapses, the covenants usually fall away. But if the owner took money they should not have, or sold assets they should not have sold, it becomes a fact – and other interested parties will know about it. The reputational damage is significant. That is why it is crucial to comply with the covenants from the outset and, in case of uncertainty, clarify them with your lawyers.

Notice: The information contained in this article is of a general informational nature only and is intended to provide basic guidance on the topic based on the legal status as of 2026. Although we take the utmost care to ensure accuracy, legal regulations and their interpretation evolve over time. We are ARROWS, a Prague-based law firm, an entity registered with the Czech Bar Association (our supervisory authority), and for maximum client protection we are insured for professional liability with a limit of CZK 400,000,000. To verify the current wording of regulations and their application to your specific situation, it is necessary to contact ARROWS advokátní kancelář directly (office@arws.cz). We accept no liability for any damages arising from the independent use of information from this article without prior individual legal consultation.

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