Few items in a purchase agreement move as much money as quietly as the net working capital target. While buyer and seller wrestle for weeks over enterprise value, the working capital target is often negotiated late and under time pressure, even though it can shift the effective price by six-figure amounts.
What the working capital target does
Under the common cash-and-debt-free mechanism, the business is valued free of cash and debt. To deliver a fully functioning business, a normal level of working capital must come with it: receivables and inventory less payables. That normal level is the target. If actual working capital at closing exceeds the target, the price rises; if it falls short, the price drops. The logic is to stop the seller from starving the business just before closing.
Setting the target cleanly
The biggest dispute is the level of the target. A twelve-month average is common to smooth seasonality. For strongly seasonal businesses a simple average can mislead, requiring a month-by-month analysis. Crucially, both sides must use the same definition. A precisely defined calculation bridge with named accounts prevents later disputes over the purchase price adjustment.
Locked box as an alternative
Instead of a post-closing adjustment, the locked box mechanism is gaining ground. The price is fixed on the basis of a historical, audited balance sheet; from that date no value may leak out of the business. The advantage is price certainty and no lengthy closing-accounts process. The downside is the risk transfer: the buyer carries the economic risk from the locked-box date. Which mechanism fits depends on sector and data quality, a point professional sale preparation should clarify early.
Negotiation tactics for sellers
Sellers often underestimate their position. Presenting your own well-documented working capital analysis early sets the anchor. Buyers tend to set the target high to push the effective price down. A clean derivation of the normalised level, adjusted for one-offs, is the best defence. Watch the definition of cash and debt too: debt-like items such as overdue payables or bonus provisions deserve equal attention. Our article on working capital in the purchase agreement goes deeper.
FAQ
How large is the typical effect on the price? It depends on the business model. For working-capital-intensive companies, differences between target and actual can easily reach several hundred thousand euros.
Who prepares the closing balance sheet? Usually the buyer, with the seller holding an objection right. An independent auditor named in the contract decides disputed items.
Locked box or closing accounts? There is no universal answer. Locked box offers price certainty and less effort after closing but needs reliable historical figures; closing accounts are more precise but more dispute-prone.
30-Day Implementation Plan
Days 1 to 10: Build a month-by-month working capital history for the last twelve to twenty-four months. Identify seasonality and one-offs and derive a normalised level.
Days 11 to 20: Define precisely which accounts count as working capital, cash and debt, and clarify the debt-like items. Decide between closing accounts and locked box with your advisor.
Days 21 to 30: Draft the calculation bridge with named accounts, deadlines and arbitration. Stress-test the target against different closing dates and align with the rest of the agreement.