Working Capital in a Business Sale: The Adjustment Nobody Explains
Updated: Sep 29
Working capital is where sellers who negotiated a great price quietly lose a meaningful piece of it. The mechanism is not complicated, but it is usually introduced late, buried in the purchase agreement, and explained poorly.
What the adjustment is
Most transactions at this size are structured cash-free and debt-free, with a normal level of working capital delivered at closing. Working capital generally means current assets such as receivables and inventory, minus current liabilities such as payables and accrued expenses. The parties agree on a target, usually a historical average over the preceding twelve months. At closing, actual working capital is measured: deliver more than target and the buyer pays the difference, deliver less and the price is reduced.
Why it exists
From the buyer's perspective it is reasonable. They are buying a business that can operate the day after closing without an immediate cash injection. If you collected every receivable and paid nothing before closing, they would inherit an operationally empty business at full price.
Where sellers lose money
The target is set too high. If the reference period included an unusual build in inventory or receivables, the average may exceed what the business actually needs, and every dollar of inflated target comes off your proceeds.
Seasonality is ignored. A business closing at its seasonal peak naturally holds more working capital than its annual average. Without a seasonally adjusted target, the seller hands over free capital.
The definition is loose. Which items count, how inventory is valued, how reserves for uncollectible receivables are set, and how disputes get resolved should all be defined in writing with an illustrative calculation attached.
The true-up drags. Post-closing adjustments need a defined timeline, dispute mechanism, and cap, or you will be arguing about numbers months after moving on.
What to do
Raise working capital early rather than letting it appear in the first draft of the purchase agreement. Have your advisor and CPA calculate a defensible target from your own data, adjusted for seasonality, before the buyer proposes one. Insist on a written definition and a sample calculation, and model the outcome at your expected closing date. On a lower-middle-market transaction, a poorly negotiated target can cost more than the entire advisory fee.
Common questions
What is a working capital adjustment?
Most transactions are structured cash-free and debt-free with a normal level of working capital delivered at closing. A target is agreed, actual working capital is measured at closing, and the price adjusts against the difference.
How is the working capital target set?
Usually a historical average over the preceding twelve months. Watch for reference periods that included unusual inventory or receivable builds, and for seasonality if you close at a seasonal peak.
Can working capital cost me money?
Yes, often more than the entire advisory fee. An inflated or seasonally unadjusted target, a loose definition, or an open-ended true-up period all move money from your side to the buyer's.
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