You agreed on a price. It’s in the letter of intent. Everybody shook hands. Then the purchase agreement arrives with a working capital adjustment.
Suddenly the number at closing depends on a formula, a “target,” and a calculation done after the deal closes. For sellers, the money you actually walk away with can move. For buyers, it’s the protection that makes sure you get a business that can pay its own bills on day one.
Working capital adjustments are standard in larger deals and increasingly common in mid-sized ones. They’re also one of the least understood terms in a purchase agreement — and one of the most argued about after closing.
What a working capital adjustment is for
When you buy a business, you’re buying something that runs. That means it needs a normal level of short-term assets — receivables coming in, inventory on the shelves — against its short-term bills.
The buyer prices the business assuming that normal level will be there at closing. The working capital adjustment makes sure it is.
If the seller collects every receivable, lets inventory run down, and stretches every payable in the months before closing, the buyer takes over a business that needs an immediate cash injection to operate. The adjustment reduces the price to account for it. If the business delivers more working capital than normal, the price goes up.
It’s not a penalty or a trick. It’s a way of making sure the price reflects the business that’s actually handed over.
How the working capital adjustment works
Most work in three steps:
1. Set the target (sometimes called the “peg”). The parties agree what a normal level of working capital is, usually based on an average over a period before closing. This is the single most important number in the mechanism, and it’s a negotiation, not a calculation. Seasonal businesses especially need care here — a target based on the wrong months can cost one side real money.
2. Estimate at closing. Right before closing, the seller estimates the working capital that will be delivered, and the price is adjusted up or down from the target based on that estimate.
3. True up after closing. Within a set period after closing, the buyer — who now has the books — prepares a final calculation. If it differs from the estimate, someone writes a check.
Where the fights start
Almost every dispute comes from one of these:
The definition. “Working capital” means whatever the agreement says it means. Which accounts are in? Are old receivables counted at full value? Is obsolete inventory? Are cash and debt excluded (they usually are, in a “cash-free, debt-free” deal)? A definition that says “current assets minus current liabilities” with nothing more is an invitation to argue.
The accounting rules. If the target was calculated one way and the closing number is calculated another, the difference shows up as an adjustment nobody bargained for. The agreement should require the same accounting methods used to set the target — ideally with a worked example attached as an exhibit.
Who calculates it, and how you challenge it. The buyer usually prepares the final number. The seller needs access to the books, a real period to review, a way to object, and a neutral accountant to resolve what the parties can’t. Without those, the buyer’s number is the number.
Whether there’s a collar. Some agreements ignore small differences either way. That can save both sides from fighting over amounts smaller than the accounting fees.
Do asset sales have this too?
Often, yes — in a different form. Many smaller asset deals don’t use a full working capital adjustment, because the seller keeps the receivables and pays the payables. But they still frequently adjust for inventory counted at closing, deposits, prepaid items, and customer obligations the buyer is taking on.
The question for either side is the same: what level of these items is the price assuming, and what happens if closing day looks different?
Why sellers should care before the LOI
By the time the purchase agreement is being drafted, the target is often treated as already decided. Sellers who don’t think about it until then are negotiating from behind.
If the letter of intent says the price assumes a “normal level of working capital,” that phrase is doing a lot of work. Getting your CPA to tell you what normal looks like for your business — before you agree to a price — is one of the most valuable things you can do in a sale.
Why buyers should care
Without an adjustment, nothing in the deal stops a seller from collecting receivables, running down inventory, and handing you a business that needs cash on day one. Your lender may not be happy about that either.
The adjustment also connects to the rest of the deal: escrows and holdbacks, any seller note, and the representations about the financial statements. These terms should be negotiated together, not one at a time.
The pattern we see most
The letter of intent says nothing about working capital. The buyer’s first draft of the purchase agreement includes a working capital adjustment with a target based on the twelve months before closing — which, for a seasonal business, includes the strongest months of the year.
The seller signs without running the numbers. The business closes in its slow season. The post-closing calculation comes in well under the target, and the seller owes money back — after they thought the deal was done.
The fix wasn’t a lower price. It was a target based on the right months, set before signing, with a clear definition and an accountant’s review.
What to do next
If you’re selling: ask your CPA what a normal level of working capital is for your business, and raise it before you sign the LOI.
If you’re buying: make sure the price you agreed to assumes a working business is delivered, and that the agreement gives you a way to measure it.
Either way: define it precisely, attach an example, and agree on how disputes get resolved.
Holmes Business Law represents buyers and sellers in business purchases and sales up to $12 million across Pennsylvania and New Jersey. We handle the letter of intent, purchase agreement, seller notes, and closing — and we work closely with your CPA on the accounting side.
