Aging receivables beyond working capital peg

October 12, 2021

by a searcher from Columbia University - Columbia Business School in New York, NY, USA

Would love some thoughts on treatment of receivables beyond what would be included as working capital as part of a deal.

I'm looking at a company that services the construction market - end customer is developer/gov/pe firms etc.

Enterprise value is ~$9m. A/R is $2.5m. I would be receiving ~$750k as part of the work cap peg. I don't want to buy out aging receivables or receivables at all beyond the peg.

Is escrow an option? How is this typically handled? Any thoughts would be really helpful.

Thanks in advance for the feedback!

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Reply by a professional
from Harvard University in Atlanta, GA, USA

^redacted‌ I agree with Matt. But be sure to adjust your valuation so you don't overpay. Meaning, if the business operates with $2.5 million in AR, and you peg the AR at $750k and pay the seller for anything over that amount, and all that cash comes in, you'll be paying the seller $1.75 million that formerly would have stayed in the business to pay bills. From a classical valuation perspective, the valuation should include normal levels of AR ($2.5 million). So be sure to adjust for a $1.75 million reduction in AR. For instance, if enterprise value is $9 million, you might subtract the $1.75 million of "aged AR" and pay it out as it comes in so you'd reduce cash at close by $1.75 million and pay it out as it comes (similar to a seller note). Don't just give that cash to the seller and not adjust your purchase price for it. (especially if it historically has come in)

Reply by a searcher
in Alpharetta, GA, USA

Richard I bought a business that also serves the commercial construction space (large and medium sized GCs). Aged receivables are just part of being a subcontractor. In my acquisition I paid the seller face value for all of the AR with an escrow and a deal value “true up” after 1 year. There was only one receivable (about 25 bps on notional) that never paid off, all the rest were received. Since then I have had AR get as old as 280 days (so called retainage) but never have I had to eat it.

My larger point is that in this industry you get paid when your customer gets paid. Sometimes that takes many months, but it usually doesn’t mean increased risk of bad AR. So I wouldn’t want you to lose out on this deal because of excess focus on aged AR, BUT you should go in eyes open about how long it will take to get paid in many cases.

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