During the buy-side Quality of Earnings analysis, the auditors are pushing to shift several accrued vendor bonuses and seasonal payroll reserves out of working capital and into trailing operating expenses, directly lowering EBITDA. How do we fight this?

Question

Tyler Smith · Accepted Answer

This is a classic diligence tactic where buyers exploit the boundary between working capital and the income statement. A one-dollar increase in working capital liabilities reduces your cash at closing by exactly one dollar. But a one-dollar shift into trailing twelve months operating expenses reduces your EBITDA, which haircuts your total valuation by your transaction multiple. If you sell at a 7x multiple, that one-dollar reclassification costs you seven dollars.

To fight this adjustment, examine your historical accounting treatment over the past three years. You must prove whether these bonuses and payroll reserves are standard, ongoing operational expenses or discrete, variable cash allocations tied to historical ownership.

- If these bonuses are discretionary owner distributions or performance incentives that will not continue post-close, fight to include them as normalized seller add-backs rather than ongoing operating costs.
- If the expenses are standard annual obligations, prove that your historical working capital peg calculation already accounted for these accruals. If the buyer includes them as an expense in EBITDA, they must remove them from the target working capital liability calculation.

Never allow the buyer to double-dip by haircutting your EBITDA multiple while simultaneously charging you for the same liability on the working capital settlement sheet at closing.