The buy-side Quality of Earnings firm is proposing a net working capital target that includes historical accounts payable that were artificially high due to a one-time inventory build-up. How do we normalize this in the NWC peg without hurting our cash-free, debt-free proceeds?

Question

Tyler Smith · Accepted Answer

A Quality of Earnings firm will gladly use a simple twelve-month average to set your net working capital target, especially if you had an unusual spike in accounts payable. If your payables were artificially high due to a one-time, strategic inventory build-up, using those unadjusted months will inflate your net working capital peg.

This forces you to leave more cash in the business at closing than is actually required to run daily operations. To combat this, you must normalize your accounts payable just as you would normalize your EBITDA. Present the buyer with a detailed schedule showing the exact dates and costs of that non-recurring inventory purchase.

Argue that this spike does not represent the normal, run-rate cash requirements of the business. Use your history of weekly Level 10 Meeting™ sessions to show how inventory is systematically managed under your operational model. You want to propose a working capital peg based on a normalized operating cycle, excluding that anomalous period.

If they resist, suggest using a shorter, more representative period, like the last six months, or a rolling three-month average. Do not let their backward-looking accounting formulas strip your cash-free proceeds at the closing table.