The difference between a company's operating current assets and operating current liabilities. In M&A, its normalised level is key to the purchase price adjustment.
Working capital is the lifeblood of a business: the money circulating between customers, inventory, and suppliers to sustain daily operations. In a company acquisition, its normalised level determines how much “fuel” the company must have at closing to function properly, and any deviation directly adjusts the price.
Working capital is the difference between a company’s operating current assets and its operating current liabilities. It reflects the net resources required to finance the business’s operating cycle: buying materials, producing, storing, selling, and collecting.
Working capital = Operating current assets - Operating current liabilities
Where:
Important: cash and short-term financial debt are not included in working capital for M&A purposes, because they are treated as separate items in the equity bridge (cash and net debt).
In an M&A transaction, the parties do not negotiate based on the working capital on the day of closing (which may be inflated or deflated due to seasonality, tactical decisions by the seller, or one-off circumstances). Instead, a normalised working capital level is defined — the level the company “normally” needs to operate.
The normalised level is typically calculated as:
This normalised level is incorporated into the SPA as a benchmark. At closing, actual working capital is compared to the normalised level:
The working capital adjustment is one of the equity bridge items where the most money is at stake, particularly in companies with:
The most common conflicts revolve around:
There are two main mechanisms for adjusting working capital:
The adjustment is calculated after closing, with accounts prepared as at the closing date and a review period (typically 60-90 days). This is the most common mechanism in Spain.
The price is fixed at a reference date before closing and is not adjusted afterwards. The seller warrants that no value has been extracted between the reference date and closing. It is simpler but transfers more risk to the buyer.
Both mechanisms have their own glossary entries: completion accounts and locked box.
A pharmaceutical distribution company in Spain is sold at an Enterprise Value of 25 million. Normalised working capital, calculated as the 12-month average, is 4.2 million.
At closing, actual working capital is 3.5 million (the seller has accelerated collections and reduced inventory in the weeks before closing).
Adjustment: 3.5M - 4.2M = -0.7M
Equity Value is reduced by 700,000 euros. The seller receives 700,000 less than they would have if they had maintained working capital at its normal level.
Operating current assets (inventory, trade receivables, supplier prepayments) minus operating current liabilities (trade payables, customer advances, current operating provisions). Cash and financial debt are excluded, as they are treated separately in the equity bridge.
Because the Enterprise Value assumes a normalised level. If actual working capital at closing differs from the normalised level, the price is adjusted so the buyer receives the company with the operational level needed to function without injecting additional funds.
Typically as the average of monthly working capital over the past 12-24 months, excluding anomalous seasonality and extraordinary items. The exact definition is negotiated in the SPA and is specific to each transaction.
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