You've signed an LOI for $4M and you're expecting to wire $4M at close. Then the purchase agreement arrives and there's a section on "purchase price adjustments" and a "working capital peg." This section — if you don't understand it — can result in you receiving significantly less than the headline price.
Purchase price adjustments are standard in middle-market M&A. Understanding them before you sign the LOI puts you in a much stronger position.
What Is Working Capital?
Working capital is the difference between current assets (cash, accounts receivable, inventory) and current liabilities (accounts payable, accrued expenses, current portion of debt). It's the liquidity available to run the business day-to-day.
In a business sale, the buyer is acquiring a going concern — they expect the business to be delivered with enough working capital to operate normally. The working capital peg is the amount of working capital the buyer expects to find at close.
Why Purchase Price Adjustments Exist
When you negotiate a sale price, it's based on historical financial performance — not the exact financial state of the business on the day of closing. Between the LOI and close (45–120 days), things change: customers pay invoices (AR decreases), you pay vendors (AP decreases), inventory fluctuates.
The purchase price adjustment mechanism true-ups the deal so the buyer gets the working capital they expected — and so the seller can't drain the business of cash or AR in the weeks before close.
How Working Capital Pegs Work: Step by Step
| Step | What Happens |
|---|---|
| 1. Negotiate the peg | Agree on a "target" working capital amount in the LOI or purchase agreement (typically based on trailing 12-month average) |
| 2. Estimate at close | Calculate estimated working capital at close; this determines the initial wire amount |
| 3. Post-close true-up | 45–90 days after close, final working capital is calculated and compared to peg |
| 4. Adjustment | If actual WC < peg: seller pays buyer the shortfall. If actual WC > peg: buyer pays seller the surplus. |
Example: How a Working Capital Adjustment Reduces Your Proceeds
Deal price: $4M. Working capital peg: $450K. You close and actual working capital at close is $280K — a $170K shortfall. The true-up 60 days later requires you to pay the buyer $170K. You net $3.83M instead of $4M.
This isn't unusual. And it's not a bad-faith move by the buyer — it's a standard mechanism. The problem for sellers: they don't always understand it during LOI negotiations and only discover the impact when the purchase agreement arrives.
How to Negotiate the Working Capital Peg
The peg amount and calculation methodology are negotiable. Sellers should push for:
Trailing 12-month average, not month-end snapshots: Seasonal businesses have volatile working capital. Using a 12-month average creates a fair baseline rather than a number that happens to be high or low at one point in time.
Exclude cash from the peg: Buyers sometimes try to include cash in the working capital peg, which effectively means you're leaving cash in the business for them. Negotiate to exclude cash from the calculation.
Narrow what counts as current liabilities: Some accruals and deferred revenues are mechanical and shouldn't drive the peg. Define the calculation precisely.
Short true-up window: The post-close true-up period should be as short as possible (30–60 days) to limit uncertainty.
Other Types of Purchase Price Adjustments
Beyond working capital, purchase price adjustments can also include: debt adjustments (outstanding debt reduces proceeds dollar-for-dollar unless assumed by buyer), cash adjustment (cash on hand at close may be retained by seller or added to proceeds), and capital expenditure adjustments (if agreed capex wasn't completed before close).
Read every adjustment mechanism in your purchase agreement carefully with your attorney before signing.
→ How to Negotiate the Sale of Your Plumbing Business Working capital pegs in context of the full deal negotiation → Letter of Intent in a Plumbing Business Sale Why you should negotiate the working capital peg at the LOI stageDISCLAIMER: The information on this page is provided for general informational and educational purposes only. It does not constitute — and should not be construed as — financial advice, investment advice, legal advice, tax advice, or any other form of professional advice. Nothing on this site creates a professional advisory relationship between you and Lightning Path Partners. Business valuations, transaction structures, and market conditions discussed herein are general in nature and may not apply to your specific situation. Always consult a qualified financial advisor, M&A attorney, business broker, or CPA before making any business or financial decisions. Full Terms of Use →
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