Glossary
Working capital
The capital tied up in the day to day operation of a business: broadly, amounts owed by clients, work in progress and prepayments, less amounts owed to suppliers, staff and others. In a transaction, the difference between actual and agreed normal working capital often adjusts the price.
In plain English
A business needs a certain amount of money in the system to operate: clients pay after work is done, suppliers and staff are paid on their own terms, and projects in progress have costs before they have revenue. That cushion is working capital. It moves through the year, and in event, production and media businesses it can move a great deal.
Why it matters in a transaction
A buyer expects to receive a business with enough working capital to keep operating normally. So the price, usually an enterprise value, assumes a normal level of working capital. If the business has more than that at completion, the seller is usually paid for the excess; if less, the price is reduced. The agreed normal level, often called the target or peg, is therefore a negotiating point in its own right, and one that can move the equity value materially.
How the adjustment is made depends on the pricing mechanism: it is settled after completion with completion accounts, or fixed in advance with a locked box.
What to watch for
- Track working capital monthly so that the normal level can be shown, not argued.
- Seasonal businesses should expect the target to be based on an average over a representative period.
- Definitions matter: what is included in working capital, cash and debt determines the result.
- Deposits from clients, deferred income and accrued costs are common areas of debate, particularly in experience and events businesses.
Written by Motion Advisory Partners as general guidance. Definitions depend on the agreement.