Price adjustment for negative working capital and seasonal business

January 17, 2022

by a searcher from EDHEC Business School, Lille and Nice in London, UK

Hi guys,

I am about to put an offer on a business with negative working capital (customer invoice paid in a few days but payables at 30 days; no inventory). The business also is seasonal and by the time we close the very busy season will be behind us, so effectively leaving us from day 1 with few receivables and quite significant payables.
How would you approach the negotiation with the seller?

I was thinking introducing in the LOI an "uncommitted cash balance", effectively making sure the cash balance left on the balance sheet would be free of invoice, payables raised and accrued expenses before the closing date.
Then having the price adjustment clause pegged on the uncommitted cash balance.
What do you think of it? Curious to see how searchers approached the issue

Thanks a lot for your help!
Tom

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Replies

Reply by a lender
from Eastern Illinois University in 900 E Diehl Rd, Naperville, IL 60563, USA

We recently closed on the financing for an acquisition where the business had a similar situation. They were typically paid up front for product but the company did not typically need to pay its vendors for 30 to 45 days. In our case we had an SBA 7A business acquisition loan involved as well. What we had the client do was structure into the purchase a working capital adjustment at closing. In essence the difference between A/P and A/R was to be the responsibility of the seller at closing. Rather than setting it up as a credit, which could have reduced the SBA loan amount, it was setup for the funds to be escrowed at closing to cover the outstanding payables at that time. In essence what happened is the buyer's attorney took the escrow at closing and immediately following closing released the funds to pay those payables. I hope this makes sense. Happy to discuss in more detail if I can be of any help. I can be reached at redacted Good luck.

Reply by an intermediary
from The University of Chicago in Chicago, IL, USA

In general, it is difficult to convince a seller on many fronts. For you to introduce new concept "uncommitted cash balance" may be risky. I have taught negative WC for many years and have sold many businesses with negative WC. The concept of debt-free cash-free balance sheet is too simplistic. W/o getting into more details, ^Brad Hettich 's approach "In essence the difference between A/P and A/R was to be the responsibility of the seller at closing" is the proper one" for negative WC (but not for positive WC). Note: A/P to include all liabilities.
You may be trying to make up for negative WC with low multiple. If it works, great. If not, consider, normal multiple with seller responsible for A/P.

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