Working capital is the sum of your liquid assets (normally cash, receivables and inventory) and current liabilities (accounts payable).

First thing is to review these items and make sure :

  • Only collectable receivables included
  • Only non-obsolete or saleable inventory is included
  • There are no undisclosed contingent or unrecorded liabilities

Once these accounts are normalized, we can see how much of the business value lies in working capital. The buyer will want as much as possible and the seller wants to give as little as possible.

If the business has solid cash flows and revenue numbers it will be easier to justify less working capital. One way to look at this, the buyer, after closing the purchase does not want to have to inject additional cash right away, that is just an addition to the purchase price that the buyer agreed to pay.

It is helpful to look at the business and how it generates working capital. After purchase there should be enough working capital so that the business continues to run smoothly, generating sufficient working capital to not require injections.

Each company will vary in this regard, some have very little working capital, and a great deal of goodwill. We will discuss goodwill in a later article.