What Is Working Capital?Definition, Formula, Examples

Working capital adjustments are among the most contentious elements of business sale negotiations because they directly affect the final purchase price. Buyers want to ensure they receive enough operating liquidity to run the business without additional investment, while sellers want to extract as much cash as possible before closing. Experienced business brokers and M&A advisors establish the working capital target early in negotiations to prevent surprises that can derail the deal during the closing process.

Sellers should understand that aggressively collecting receivables, drawing down cash, and depleting inventory before closing will trigger a dollar-for-dollar reduction in the purchase price through the working capital adjustment mechanism. The optimal strategy is to maintain normal business operations through closing, which preserves the agreed working capital level and avoids contentious adjustment disputes. Attempting to extract extra cash before closing is a common mistake that sophisticated buyers anticipate and neutralize through well-drafted purchase agreements.

For buyers, understanding the working capital cycle of the target business is essential for structuring the acquisition financing. A business with a 60-day receivable cycle, 30-day payable terms, and seasonal inventory buildup requirements may need significantly more working capital than the balance sheet suggests on any single date. Modeling the full working capital cycle ensures the buyer has adequate liquidity and avoids a post-closing cash crunch that forces distress borrowing.