WORKING CAPITAL PEG IN A DEAL - HOW DOES IT WORK?
I would like to understand the basics of working capital peg in a deal and how it works once we peg the amount. I’m adding a simple example below so that someone can help me understand. Consider a fictitious company XYZ …
TTM Revenue - $10M TTM EBITDA - $2.5M TTM Current assets (A/R excluding cash) - $2M TTM Current liabilities (A/P and other current liabilities) - $1M
Now, working capital is current assets - current liabilities = $1M per above example.
Assume valuation at 4x multiple - $10M. Given this simplistic example, my questions below …
1- If we peg back the $1M working capital we only pay the seller $9M and not $10M? Is this how we deal with working capital? 2- If we pay only the $9M, then does the seller gets to collect the accounts receivable ($2M in above example) and buyer does not get it? 3- If #2 is not accurate then does buyer deduct $1M as working capital peg AND keep the A/R as well?
Which is the norm here - #2 or #3? Can anyone share a link explaining that as the norm (I looked around but I cannot find a definitive source)?
PS: I also saw a couple of prior posts here about getting brokers to understand working capital but adding a new post to this topic since my question seems even more fundamental.