By Sergei Mochtchenkov, CFA
The peg mechanism
A working capital peg is a negotiated reference amount used to compare agreed working capital at closing. First define the included accounts and accounting policies in the deal documents. Under a dollar-for-dollar mechanism, closing working capital below the peg reduces the price and an excess increases it, subject to the agreement; the sign convention and exclusions should be explicit.
Seasonality
Review monthly balances over a period that captures the business's operating cycle rather than relying on one balance-sheet date. Compare receivables, inventory and payables with revenue and activity levels. A seasonal inventory build or collection cycle can make a simple average misleading, so show the monthly pattern and explain how the expected closing month compares.
Normalization choices
Separate normal operating balances from unusual or disputed items. Examples to investigate include aged receivables, obsolete inventory, overdue payables and balances classified as debt-like. An item excluded from working capital must not also create a second price adjustment without a clear agreement. Apply consistent definitions to the historical schedule, proposed peg and closing calculation.
Closing statement support
Build a closing statement that can be traced account by account to the underlying records. Retain aging reports, reconciliations and explanations for changes between the reference period and closing. Identify disagreements about classification, cut-off and estimates separately; resolving the definition of an account is different from correcting its balance.