The buyer is proposing a working capital peg based on a simple twelve-month average, but our business is highly seasonal, and this peg will force us to leave too much cash in the business. How do we calculate and negotiate a fair net working capital target?

Question

Tyler Smith · Accepted Answer

A simple twelve-month average for a working capital peg is a classic buyer trap designed to steal your cash at closing. If your business is seasonal, a flat average will either starve the business of operating cash or force you to write a massive check to the buyer to cover a temporary shortfall.

Calculating a Fair Working Capital Target

To protect your cash, you must calculate a rolling, volume-adjusted net working capital target that reflects your actual cash cycles. This requires a detailed analysis:

• Analyze your accounts receivable, inventory, and accounts payable over a twenty-four-month period.
• Identify seasonal peaks and valleys in these components.
• Present this data to the buyer, proving that your working capital needs fluctuate predictably based on production cycles.

This approach demonstrates the true operational needs of the business throughout the year, rather than a misleading average. For businesses with seasonal fluctuations, it's also important to consider how [seasonal business scorecard goals](/qa/seasonal-business-scorecard-goals) might be set to reflect these realities.

Negotiating the Peg

Once you have your data, propose a more accurate working capital peg. Consider these options:

• Seasonal Peg: Recommend a peg that adjusts the target based on the specific month you close the transaction. This acknowledges the natural ebb and flow of your business.
• Cash-Free, Debt-Free Collar: Implement a collar that defines a range for net working capital, ensuring the buyer receives a business with adequate operating cash without penalizing you for temporary fluctuations.

This negotiation is crucial to ensuring you don't leave excess cash in the business. Understanding [how buyers actually value a business](/qa/understanding-business-valuation-multiples-market-approach) beyond simple multiples is key to these discussions.

Optimizing Before Closing

Leading up to the transaction, ensure your leadership team is monitoring these working capital components as weekly Rocks on your Scorecard. By managing your collections and payables tightly, you can optimize your working capital position before the transaction date. This ensures you do not leave a single dollar of excess cash on the table when the final balance sheet adjustments are calculated. Effective monitoring requires a well-structured [scorecard](/qa/how-to-choose-five-fifteen-scorecard-metrics) with clear [leading versus lagging indicators](/qa/leading-vs-lagging-scorecard-metrics). Additionally, [cleaning your financials](/qa/cleaning-financials-for-business-sale-valuation) well in advance of a sale is critical to maximizing valuation.