Our cash conversion cycle is highly irregular because we have large, upfront project deposits followed by long payment delays on final deliverables. How do we structure our net working capital target to avoid leaving our cash in the buyer's bank account?

Question

Tyler Smith · Accepted Answer

Standard working capital formulas do not work for businesses with irregular cash conversion cycles. If you use a simple twelve-month average, you risk leaving too much cash in the business or triggering a major post-closing purchase price reduction. You must negotiate a modified net working capital peg that accounts for your deferred revenue and customer deposits. Clearly define customer deposits as liabilities that must be offset by cash on the closing balance sheet. If the buyer is taking over the obligation to complete the work, they need the working capital to do so, but they should not get a windfall of free cash. Calculate your net working capital requirements based on a rolling three-month average or an operational milestone method that matches your actual cash conversion cycle. Use your EOS® financial metrics to demonstrate how cash flows through your business. Present this data clearly to the buy-side auditors during diligence. Negotiating a tight definition of net working capital ensures that every dollar of working capital above the actual operational requirement is returned to you as cash at close.