There is a moment in many deals that catches owners off guard. The headline price has been agreed. Everyone is happy. Then the lawyers and advisers start talking about working capital, and the amount the owner actually walks away with begins to move, sometimes by millions of rand. It feels like a trick. It is not. It is one of the most important, and least understood, parts of a deal.
What working capital really is
Working capital is the money tied up in the day to day running of the business. It is the stock on the shelves, the invoices customers still owe you, and the bills you still owe suppliers, netted against each other. Every business needs a certain amount of it just to keep operating, much like a car needs fuel in the tank to run.
When a buyer acquires your business, they expect to receive it with a normal amount of working capital already in place, enough to keep trading from day one without injecting extra cash. This is the heart of the issue. The deal is usually priced on a cash free, debt free basis, which means the buyer assumes a normal level of working capital comes with the business as part of the agreed price.
How it moves your money
Before completion, the parties agree a target level of working capital, often called the peg. It is usually based on the average the business has needed over the past twelve months. At completion, the actual working capital is measured. If it comes in above the target, the buyer pays you more, because you are handing over extra value. If it comes in below the target, the price is reduced, because the buyer will have to top it up themselves.
Here is where owners get caught. In the months before a sale, it is tempting to collect every debtor quickly, delay paying suppliers, and run stock down to free up cash. That feels prudent. But it strips working capital out of the business, and at completion the buyer notices, adjusting the price down to restore the normal level. The cash you pulled out early comes straight back off your final price.
Why the target itself is a negotiation
The working capital target is not a neutral fact. It is negotiated, and how it is calculated can swing the outcome significantly. A business with seasonal swings, lumpy stock, or unusual payment terms can see very different targets depending on which months are chosen and how items are defined. Buyers and their advisers know exactly how to set a target that favours them. Owners who go in unadvised often do not realise the game is being played until the money has moved.
For a mid sized business, a poorly handled working capital negotiation can quietly cost more than the owner ever imagined haggling over on the headline price. It is one of the clearest examples of why the number you shake hands on is not always the number you receive.
What to do about it
The first step is to understand your own working capital cycle long before you sell. Know what a normal level looks like across a full year, so you can recognise a fair target when one is proposed. Resist the urge to manipulate the balance sheet in the run up to a sale, because the adjustment mechanism is designed to undo exactly that.
Most of all, do not treat working capital as a technicality to leave to the lawyers at the end. It is a pricing issue, and it deserves attention from the start of the process. Owners who understand it protect real value. Owners who ignore it tend to find out, too late, why the final cheque was smaller than they expected.