The buyer is insisting that our deferred revenue should be treated as debt-like items and deducted dollar-for-dollar from the purchase price, while we argue it should be included in the net working capital peg. How do we settle this discrepancy?

Question

Tyler Smith · Accepted Answer

Buyers love to classify deferred revenue as a debt-like item because it gives them an immediate dollar-for-dollar reduction in the purchase price. Their argument is that they are inheriting a liability to perform services post-close without receiving the cash. However, this ignores the operational reality of how your business runs.

To defend your valuation, you must show that the cash received from deferred revenue has already been absorbed into your working capital cycle to fund operations. If you treat deferred revenue as debt, the buyer gets the cash, a lower purchase price, and the future revenue. This is double-dipping.

Your resolution lies in the net working capital peg. Agree to include deferred revenue in the net working capital calculation rather than as a debt deduction, but adjust the target peg accordingly. This ensures that the buyer is protected because you are leaving enough working capital in the business to fulfill those future obligations.

Use your historical cash-flow data to demonstrate that your ongoing operating expenses to fulfill deferred revenue are significantly lower than the gross deferred revenue balance. If your gross margin is fifty percent, the actual cost to deliver is only half of that liability. By showing the true cost of fulfillment, you can successfully negotiate a compromise that prevents a massive cash drain at closing.