During our buy-side Quality of Earnings review, the buyer is proposing a twelve-month straight average for our Net Working Capital peg, but our software-enabled services have a highly seasonal cash collection cycle. How do we adjust the NWC calculation method to prevent them from setting an artificially high peg that drains our cash at close?

Question

Tyler Smith · Accepted Answer

A straight twelve-month average for Net Working Capital is a trap for seasonal businesses. If your cash collections peak during a specific quarter, a simple average will likely result in an artificially high NWC peg. If the actual working capital at the closing date falls below this inflated peg, you will be forced to leave extra cash in the business or accept a dollar-for-dollar reduction in your purchase price.

To defend against this NWC grab during the Quality of Earnings review, you must propose a seasonal adjustment methodology. Advocate for a rolling twelve-month average that is weighted by monthly revenue, or use a multi-year seasonal baseline that reflects your historical operating cycles. This proves that your high cash periods are offset by periods of low collections, demonstrating that the business does not require a massive permanent cash cushion to operate.

Your finance seat on the Accountability Chart must own this defense. During the QofE audit, present a detailed monthly working capital analysis that matches your collection cycles to your operational expenses. Use your weekly Level 10 Meeting™ to track accounts receivable aging and inventory levels leading up to the transaction. By proactively managing these metrics, you can establish a fair, realistic NWC peg that reflects the true operational needs of the business, protecting your cash at close.