The buyer's working capital peg is based on our historical cash-basis financials but we have recently shifted to accrual accounting. How do we negotiate a net working capital target that does not force us to leave excess cash in the business at close?

Question

Tyler Smith · Accepted Answer

Negotiating a net working capital target based on cash-basis accounting is a massive financial trap. If you bill your clients upfront but pay your expenses later, cash-basis financials will distort your true working capital requirements, forcing you to leave an artificially high amount of cash in the business at close to meet the buyer's peg.

To protect your cash, you must insist on establishing the net working capital target using Generally Accepted Accounting Principles on a clean accrual basis. Run a dedicated Thinking Time session to analyze your balance sheet over the last twelve months. Convert your historical cash-basis numbers into accrual-basis performance so you can compare apples to apples.

This conversion will properly align your accounts receivable, accounts payable, and deferred revenue. Show the buyer that your actual working capital cycle is highly optimized and requires less operating cash than their cash-basis model suggests.

Define the working capital peg as a rolling twelve-month average of accrual-based net working capital, excluding any non-operational assets or liabilities. This protects your cash at close because any surplus cash above that fair, accrual-based target is distributed back to you as the seller. Do not let the buyer use outdated accounting methods to turn your hard-earned operating cash into a free post-close working capital windfall for their holding company.