Working Capital & Closing

What Is a Working Capital Peg in an Acquisition?

By Steve MorelloPublished September 1, 2026Reviewed September 1, 20269 min read

A working capital peg, also called a working capital target, is the level of working capital the buyer and seller agree the business needs to operate and that the seller must deliver at closing. The purchase price is set on the assumption that the business transfers as a running operation, with the receivables, inventory, and payables that keep it running; the peg makes that assumption explicit and enforceable. If the business closes with less working capital than the peg, the price is adjusted down, and if it closes with more, the price is adjusted up.

This article defines the terms, explains how a target is commonly derived, shows an illustrative derivation, and covers the places where pegs go wrong. It is written as practitioner guidance: the peg is a market convention shaped by negotiation, not a rule set by statute, and everything here should be read in that frame.

Key takeaways

Working capital in a deal context is typically the business’s current assets minus its current liabilities, as defined by a specific schedule of included and excluded accounts in the purchase agreement, not the textbook balance-sheet figure.
In many lower-middle-market deals the transaction is priced “cash-free, debt-free”: the seller keeps the cash and pays off the debt, and the peg governs what operating working capital must transfer with the business.
A common approach sets the target at the average working capital of a trailing period, often twelve months, measured on a consistent accounting basis, so that one unusually high or low month does not set the level.
The peg exists because the price assumes an operating business. Without one, a seller can collect the receivables, run down the inventory, and stretch the payables before closing, handing the buyer the same business at the same price minus the fuel it runs on.
The definition matters as much as the number: which accounts count, on what accounting basis, and measured when. Most peg disputes are definition disputes.
A buyer who funds a working capital shortfall after closing funds it from the same cash flow that services the acquisition debt, which is why the peg belongs in the pre-LOI screen, not the closing checklist.

What does “working capital” mean in a deal?

In a purchase agreement, working capital typically means the current assets the business needs to operate (accounts receivable, inventory, prepaid expenses) minus the current liabilities that come with them (accounts payable, accrued expenses, customer deposits), each defined by a schedule that names the exact accounts. That is narrower than the accounting definition, and deliberately so. In a deal priced cash-free and debt-free, as many lower-middle-market transactions are, cash is excluded because the seller keeps it, and funded debt is excluded because the seller pays it off at closing. What remains is the operating core: the money tied up in running the business day to day.

Framed as practitioner judgment: the schedule of included and excluded accounts is the peg. Two parties can agree on a number and still fight at closing because one side counted customer deposits, or accrued payroll, or an intercompany balance, and the other did not. The definition belongs in the LOI in outline and in the purchase agreement in full, on a stated accounting basis, applied consistently between the target-setting period and the closing statement.

Why do acquisitions need a peg at all?

Because the price assumes the business arrives running, and without a peg that assumption is unenforceable. A business generating its earnings needs its receivables and inventory to do so. A seller who knows the balance sheet transfers at whatever level it holds on the closing date has every incentive to convert that balance sheet to cash first: collect the receivables hard, let inventory run down, stretch the payables. Nothing about the income statement changes, and the buyer discovers in the first sixty days that the business needs a cash infusion the price never contemplated.

For a leveraged buyer the discovery is worse than an inconvenience. Cash the buyer must inject to rebuild working capital is cash that does not service the acquisition loan, and coverage that looked adequate on the modeled numbers tightens immediately. The mechanics of that squeeze are covered in why can a profitable business fail SBA underwriting, and the price side of the same question, what working capital does to what you actually pay, is the subject of how does working capital affect a business purchase price.

How is the target commonly set?

A common approach: average the business’s working capital, as defined by the deal schedule, over a trailing period, frequently twelve months, and set the peg at that average. The averaging does two jobs. It smooths seasonality, so a business measured at its inventory peak or its post-collection trough is not pegged at an unrepresentative level, and it prevents either side from timing the measurement date. Shorter averages weight the recent trend; longer ones dampen it. For a strongly seasonal business, judgment enters: an average over the full cycle, sometimes with the closing month’s expected seasonal level in view, fits better than a raw trailing mean, and this is exactly the kind of term the parties negotiate rather than look up.

Three practical requirements, framed as judgment, for any target-setting exercise:

Consistent basis. The trailing balance sheets and the closing statement must be on the same accounting basis. Cash-basis books that get restated to accrual only at closing produce a peg measured on one basis and tested on another, which is a dispute generator.
Clean months. Months distorted by one-time events (a bulk inventory buy, a large prepayment, the seller’s own sale preparations) deserve scrutiny before they go into the average.
Documented derivation. The workpaper that derives the target, account by account and month by month, should be an exhibit both sides accept before signing, for the same reason the purchase price allocation belongs in the agreement: numbers agreed in advance do not become arguments afterward.

Illustrative example: deriving a peg

All figures are illustrative and round. They are not typical results, and no target level or ratio is typical across businesses. Suppose the deal schedule defines working capital as receivables plus inventory minus payables, and the trailing four quarter-ends show:

Illustrative peg derivation from four trailing quarter-end balance sheets
Quarter-end	Receivables	Inventory	Payables	Working capital
Q1	$180,000	$120,000	($90,000)	$210,000
Q2	$220,000	$140,000	($100,000)	$260,000
Q3	$260,000	$160,000	($110,000)	$310,000
Q4	$200,000	$140,000	($100,000)	$240,000
Average (the peg)				$255,000

The parties set the peg at $255,000. At closing, the closing statement measures the same accounts on the same basis. If the business is delivered with $215,000 of working capital, the seller delivered $40,000 less than the price assumed, and the price adjusts down by $40,000 through the true-up; delivered with $290,000, it adjusts up by $35,000. The adjustment mechanics, and what they do to the final price, are worked in how does working capital affect a business purchase price.

In a real derivation, monthly rather than quarterly figures are common, and each month’s balances get the clean-month scrutiny described above before entering the average.

Where do pegs go wrong?

Framed as practitioner judgment, the recurring failure patterns:

No peg at all. Smaller deals sometimes close on an “assets at closing” basis with no target. Everything above about seller incentives applies, and the buyer’s protection is reduced to whatever diligence caught.
Peg set at a seasonal extreme. A trailing average that happens to end at the inventory peak, or a target negotiated off the single most recent balance sheet, builds the season into the number.
Definition gaps. Customer deposits and deferred revenue (money received for work not yet done) are the classic ones: they are liabilities the buyer inherits, and whether they count against working capital changes the number materially for any business that bills ahead.
Basis mismatch. Cash-basis trailing statements against an accrual closing statement, or vice versa.
Receivables quality. A peg met with receivables that never collect is met in form only. The aging analysis from the diligence file, covered in how to read a broker-prepared profit and loss, belongs in the peg conversation.
Nobody owns the closing statement. The agreement should name who prepares it, who reviews it, on what timeline, and how disputes resolve. The drafting of those provisions is your attorney’s work; the analysis behind the numbers is where your financial advisor sits.

How does working capital affect a business purchase price? →
The true-up mechanics on the price itself.
How to read a broker-prepared profit and loss →
The balance-sheet and receivables review that feeds the peg.
See where working capital fits in the full pre-LOI acquisition checklist →
DTC & e-commerce M&A →
Inventory-shaped working capital: supplier deposits, goods in transit, seasonal builds.

For a specific transaction

The peg derived from the actual trailing balance sheets, before the LOI locks the terms

NexTax Advisory's working capital and peg analysis derives the target, tests the seasonality, and works the definition schedule with your counsel.

See working capital and peg analysis Schedule a Confidential Call

About the author

Steve Morello is the founder of NexTax Advisory. His career spans corporate tax and transaction-related tax matters across private-equity and investment-fund environments, including experience at EY and Morgan Stanley. Today he applies that financial and tax background to lower-middle-market acquisitions and exits, and is the creator of AcquiFlow, pre-LOI underwriting software for SMB buyers.

About Steve →

Published September 1, 2026. Materially reviewed September 1, 2026. This article is general information, not advice for your specific situation. NexTax Advisory provides financial and tax advisory services and does not provide legal services or formal audit or attest engagements. Consult your own attorney, lender, and accountant on your specific transaction.