What is a working capital adjustment?

A working capital adjustment is an M&A mechanism that adjusts the purchase price based on the target company's net working capital at closing, compared to a negotiated target or peg. For consulting firm transactions, working capital typically includes accounts receivable minus accounts payable and accrued expenses. Adjustments ensure the buyer receives a business with normal operating cash, and the seller doesn't artificially inflate or deplete working capital before closing.

Key characteristics

• Compares closing working capital to the agreed-upon target/peg

• Consulting firm WC typically: AR minus AP and accrued expenses

• Excess working capital increases seller proceeds; a deficit decreases them

• Usually determined post-closing with true-up payment

• The target is often set at the trailing 12-month average

• Can significantly impact final purchase price (often $50,000-$500,000)

Why it matters for service firms

Working capital adjustments prevent manipulation and ensure fair dealing in consulting firm sales. Without adjustment mechanisms, a seller could accelerate collections and delay payments before closing, extracting cash that the business needs to operate. Conversely, a buyer might delay closing until AR is collected, leaving the seller with uncollected receivables. The adjustment mechanism ensures the buyer receives a normally functioning business and the seller receives fair value for the actual working capital delivered.

Real-world example

Vista Consulting agrees to sell for an enterprise value of $3.5M, with a working capital target of $280,000 (12-month average). At closing, actual working capital is $345,000: AR of $420,000 minus AP and accruals of $75,000. The $65,000 excess ($345,000 - $280,000 target) increases seller proceeds. However, the buyer's accountants dispute one $40,000 receivable as uncollectible (over 120 days). After negotiation, they agreed to an adjusted working capital of $315,000, resulting in an additional $35,000 payment to the seller—final proceeds: $3.535M. The working capital mechanism added meaningful value while ensuring both parties had clear expectations.