While it may sound like an accounting concept, net working capital plays a direct role in how much cash a seller actually takes home at closing. It can lead to unexpected adjustments, last-minute negotiations, or friction between buyer and seller if not properly addressed early in the process.
In this article, we’ll break down what net working capital is, how it’s used in a business sale, and what sellers can do to prepare.
What Is Net Working Capital?
Net working capital (NWC) is a measure of a company’s short-term financial health and its ability to operate day-to-day. At its simplest, it’s calculated as:
Current Assets – Current Liabilities
In the context of a business sale, however, net working capital is typically narrowed to focus on operating working capital: the assets and liabilities required to run the business on an ongoing basis.
This usually includes:
- Accounts receivable: Money owed by customers
- Inventory: Products ready for sale or in production
- Accounts payable: Money owed to suppliers
It may exclude items like cash, debt, or other non-operating assets, depending on how the deal is structured.
Net working capital represents the fuel needed to keep the business running. Buyers expect to receive a business that can operate normally from day one, without needing to inject additional cash to cover basic expenses.
Why Net Working Capital Matters in a Business Sale
Net working capital plays a direct role in how a deal is structured and how much a seller receives at closing. Most M&A transactions are negotiated on a “cash-free, debt-free” basis, which means the seller typically retains excess cash but is expected to leave behind a normalized level of working capital in the business.
To make this work, buyers and sellers agree on a target level of net working capital, often referred to as the working capital “peg.” This target represents what the buyer believes is the appropriate amount of capital needed to run the business under normal conditions.
This is important in two scenarios:
- If the business is delivered above the target, the seller may receive an upward adjustment to the purchase price.
- If it’s delivered below the target, the seller may owe a downward adjustment, effectively reducing the proceeds from the sale.
These adjustments are often calculated post-closing, which means sellers can be surprised if they haven’t prepared properly.
How Net Working Capital Is Used in Deal Structure
Once a deal moves beyond headline price, net working capital becomes a key part of the negotiation. This is where the concept of a working capital target, or “peg,” comes into play.
The peg is typically based on the company’s historical working capital levels, often calculated as an average over the past 12 months, with adjustments for seasonality or unusual fluctuations. The goal is to determine what “normal” looks like for the business.
At closing, the actual net working capital is compared to this agreed-upon target:
- If working capital is above the peg, the seller may receive additional proceeds.
- If it’s below the peg, the purchase price is reduced, and the seller effectively makes up the difference.
These adjustments are usually finalized after closing through a reconciliation process, which can lead to disputes if expectations weren’t clearly aligned upfront.
Seller Mistakes with Net Working Capital
Even well-run businesses can lose value in a transaction if net working capital isn’t properly understood or managed. Here are some of the most common mistakes sellers make.
Misunderstanding the Working Capital Peg
Many sellers focus on the purchase price and overlook how the peg is calculated. If the target is set too high, or based on unrepresentative periods, it can lead to a downward adjustment at closing. Sellers should understand the methodology, time frame, and any adjustments used to set the peg before agreeing to terms.
Letting Accounts Receivable or Inventory Drift
In the months leading up to a sale, operational discipline matters. Slow collections or excess inventory can distort working capital and reduce quality in the eyes of a buyer. Even if these items are technically included, poor turnover or aging can lead to pushback during diligence.
Assuming All Cash Stays with the Seller
A common misconception is that sellers receive the purchase price plus all the cash on the balance sheet. In reality, a normalized level of working capital is expected to remain in the business. Confusing cash with working capital can lead to unrealistic expectations around proceeds.
Ignoring Seasonality
If your business has seasonal swings, using a simple average to set the peg can be misleading. Closing at the wrong point in the cycle can result in an unfavorable adjustment. Sellers should ensure seasonality is properly reflected in the target to avoid being penalized by timing.
How Buyers Think About Net Working Capital
From a buyer’s perspective, net working capital is about ensuring the business can operate smoothly from day one without requiring additional cash. Buyers expect to acquire a company that comes with enough working capital to support normal operations without disruption. If working capital is too low, the buyer may need to inject capital immediately after closing, which increases risk and reduces the attractiveness of the deal.
Because of this, buyers tend to take a conservative approach when evaluating net working capital. They may push for higher working capital targets or scrutinize components like aging receivables and slow-moving inventory to ensure the numbers reflect true, usable value. Understanding what buyers are really focused on when they review your business helps you prepare for that scrutiny.
In many cases, buyers are less concerned with the headline purchase price and more focused on what they’re actually receiving in terms of operational readiness.
How to Prepare Your Net Working Capital Before a Sale
Preparing your net working capital ahead of a sale can help avoid surprises and protect your final proceeds. The goal is to present a business with clean, consistent, and well-understood working capital.
Clean Up Accounts Receivable
Focus on collecting outstanding invoices and reducing aging receivables. Buyers will look closely at how quickly customers pay and may discount or exclude receivables that appear unlikely to be collected.
Optimize Inventory Levels
Excess or obsolete inventory can distort working capital and raise concerns during diligence. Aim to maintain appropriate inventory levels that reflect normal operations, and clearly identify any slow-moving or non-core items.
Normalize Accounts Payable
Avoid unusual payment patterns, such as delaying vendor payments to artificially boost working capital. Buyers will review payables closely and may adjust for any practices that don’t reflect normal operations.
Identify Non-Operating Items
Separate out any items that aren’t part of day-to-day operations. This might include personal expenses, one-time transactions, or unusual balance sheet entries that could complicate the working capital calculation.
Work with an Advisor Early
An experienced M&A advisor can help you analyze historical working capital, anticipate how a buyer will view it, and prepare for negotiations around the peg. Addressing these issues early can prevent last-minute adjustments that reduce your proceeds. An advisor is also one part of a larger support structure — here’s how to build your full deal team before you go to market.
Final Thoughts: Don’t Let Working Capital Derail Your Deal
Net working capital is one of the most impactful parts of a business sale. While it may seem like a technical accounting detail, it directly affects how much cash you receive and how smoothly your deal closes.
Sellers who understand how working capital is calculated, negotiated, and delivered are in a much stronger position. They’re better equipped to set expectations, avoid last-minute surprises, and protect the value they’ve built. For more guides like this one, visit the Marsh Creek Insights library.
If you’re considering a sale and want to understand how net working capital could impact your transaction, Marsh Creek Advisors can help. Our team works with business owners to prepare financials, structure deals, and navigate key terms like working capital so you can move forward with clarity. Prefer to talk it through directly? Contact our team for a confidential, no-obligation conversation.
Frequently Asked Questions
What is net working capital in the context of a business sale?
Net working capital (NWC) in a business sale refers to the operating assets and liabilities a buyer needs to run the business from day one. It’s typically calculated as current assets minus current liabilities — excluding cash and debt, since most deals are structured on a cash-free, debt-free basis. This means accounts receivable, inventory, and accounts payable are the core components. At Marsh Creek Advisors, we help sellers understand exactly what’s included in their working capital calculation before they ever sit across from a buyer.
How does the working capital peg affect how much money I receive at closing?
The working capital peg is the agreed-upon target level of NWC that must be in the business at closing. If your actual working capital comes in above the peg, you may receive additional proceeds. If it falls short, the purchase price is reduced dollar-for-dollar to make up the difference. These adjustments are often finalized after closing, which is why sellers who haven’t prepared properly can be caught off guard. Marsh Creek’s PowerExit™ Strategy includes a pre-sale working capital review so you know your position well before negotiations begin.
What is typically included — and excluded — from net working capital in an M&A transaction?
In most M&A deals, NWC includes accounts receivable, inventory, and accounts payable. Cash is almost always excluded and retained by the seller. Debt and debt-like items are also excluded. Short-term investments or non-operating assets may be treated separately depending on how the purchase agreement is drafted. The exact definition of working capital is negotiated in the Letter of Intent, and getting this right early is critical — leaving it undefined until due diligence almost always favors the buyer.
How is the working capital target calculated when selling a business?
The working capital target is usually based on a trailing 12- to 24-month historical average of the company’s NWC, adjusted for seasonality or one-time items. The goal is to establish what “normal” operations look like for the specific business. Buyers will push for a methodology that protects them; sellers need an advisor who understands how to set a fair peg that reflects the true operating baseline. At Marsh Creek we work through this analysis during the preparation phase so sellers aren’t negotiating blind.
Can working capital issues derail a business sale?
Yes — and it happens more often than sellers expect. Disputes over working capital definitions, last-minute peg adjustments, and post-closing reconciliation disagreements are among the most common sources of deal friction. Mismanaged NWC can delay closing, reduce proceeds, or in some cases collapse a transaction entirely. The best protection is working with an experienced M&A advisor early. Marsh Creek Advisors has guided hundreds of business owners through these negotiations, and our process is specifically designed to surface working capital issues before they become deal problems.
How do buyers evaluate accounts receivable and inventory when reviewing working capital?
Buyers don’t simply accept the face value of receivables and inventory — they look at quality. Aging receivables (invoices outstanding beyond 90 days) are often discounted or excluded entirely. Slow-moving or obsolete inventory raises similar concerns. Buyers want to see that the working capital they’re receiving is actually usable, not just a number on a balance sheet. Sellers should clean up both before going to market. Marsh Creek helps clients identify and address these red flags during the preparation stage of our PowerExit™ process.
What happens if working capital is too low at the time of closing?
If working capital falls below the agreed peg at closing, the seller owes the buyer a downward adjustment — effectively reducing the net proceeds from the sale. In some structures, this is handled as an escrow holdback or a post-closing payment. The buyer’s concern is simple: they need enough operational runway to run the business without injecting new cash immediately after the deal closes. Sellers who let receivables slip or defer payables in the lead-up to closing often trigger exactly this kind of adjustment.
When should I start thinking about net working capital if I’m planning to sell my business?
Ideally, 12 to 24 months before you go to market. That’s enough time to normalize your working capital levels, clean up aging receivables, optimize inventory, and build a clean historical record that supports a fair peg negotiation. Waiting until you’re under LOI puts you at a significant disadvantage. At Marsh Creek we offer pre-sale business assessments specifically designed to help owners identify working capital issues — and fix them — long before a buyer ever opens the books.