We are negotiating our letter of intent and are confused by the buyer's focus on setting a net working capital peg. How do we manage our cash, inventory, and receivables during our two-year exit runway so we do not end up leaving millions of dollars of our own working capital on the table at closing?

Question

Tyler Smith · Accepted Answer

The net working capital peg is one of the most common battlegrounds in a business sale, and prep work during your exit runway is the only way to avoid a painful adjustment at the closing table. The peg is the average amount of working capital the buyer expects to be left in the business at close, calculated over a historical twelve-month period. If your actual working capital at closing is below this peg, the purchase price is reduced dollar-for-dollar; if it is above, you are essentially leaving your hard-earned cash behind. To manage this, you must optimize your working capital cycle during your runway. Focus on accelerating your accounts receivable collections and tightening your inventory management. Put days sales outstanding and inventory turnover metrics directly on your weekly Scorecard. Work with your leadership team to implement automated collections processes and renegotiate vendor payment terms to shorten your cash conversion cycle. By running a highly lean and predictable working capital cycle for two years before the sale, you establish a lower historical average peg. This prevents the buyer from arguing that your business requires an artificially inflated amount of cash to operate day to day. When you go to market, you can confidently defend your working capital historical data, ensuring you walk away with your full purchase price and your cash reserves intact.