During the Quality of Earnings review, the buy-side analysts converted our historical cash-basis books to accrual accounting, which artificially depressed our net working capital baseline. How do we renegotiate the net working capital peg so we do not end up leaving our own cash on the table at closing?

Question

Tyler Smith · Accepted Answer

When a buyer converts your historical cash-basis books to accrual accounting during a Quality of Earnings review, it often distorts your net working capital baseline. This conversion can pull liabilities forward while failing to fully capture your prepayments or receivables, resulting in an artificially inflated net working capital peg that forces you to leave more cash in the business at close.

To protect your cash, you must insist on a consistent accounting methodology across all phases of the transaction. If the buyer is going to use accrual accounting to set the net working capital peg, they must use that exact same accrual methodology to calculate the historical EBITDA used to determine the purchase price.

Do not let them cherry-pick cash-basis EBITDA multiples while demanding an accrual-basis working capital peg. If the accrual conversion reduces your historical EBITDA, then your purchase price multiple must be adjusted upward, or the peg must be lowered to reflect the true cash cycle of the business.

Prepare a detailed monthly cash-to-accrual bridge before the QofE team begins their work. Identify every prepaid asset, accrued liability, and deferred revenue item. Use this bridge to prove the actual working capital required to run the business on an ongoing basis. This keeps the working capital peg fair and prevents the buyer from turning a standard accounting adjustment into a backdoor purchase price reduction.