A working capital peg can be calculated correctly and still be wrong

A working capital peg can be calculated correctly and still be wrong. A computed peg answers what the balances averaged. A tested peg answers how much of that converts to cash for you, and on an SBA deal the remedy for getting it wrong is narrower than your counsel is used to drafting.

Everything on this page is money you owe on the morning after closing, and most of it is not in the purchase price. The peg, the debt-like items, and the tax that follows the business rather than the entity.

Computed against tested, which is the distinction that costs buyers money

Almost every provider delivers the computed peg, which is twelve month-end balances of current assets excluding cash, less current liabilities excluding debt, averaged across the window and struck on a cash-free and debt-free basis. On our worked example that is $1,297.1K, which is 11.8 percent of trailing revenue and correct to the dollar. What has this business historically carried?

The tested peg is the same arithmetic run after aging the receivables, testing the inventory for saleability and obsolescence, and confirming that accrued liabilities are complete rather than convenient. How much of that converts to cash for you?

What the testing found on this business

Days inventory on hand runs at 61 against a 45-to-75 band, which reads comfortable until you age it. The computed peg carries the slow-moving portion at cost, because that is what the balance sheet says it is worth. A buyer who accepts the computed figure as a negotiated one is funding somebody else’s working capital. And calling it a fair price.

Four methods, four answers, and the month decides

The four methods land within $53K of each other here, so no method distorts the price on this business. Where a business is growing or genuinely seasonal that spread widens fast, and the month the peg sits on starts deciding the number.

Method	Result	When to use it
Trailing twelve-month average	1,297.1	Recommended here. It smooths the December and January trough, where the operating account ran brief overdrafts
Six-month average	1,319.7	For a business growing fast enough that a year-old month no longer represents it
Three-month average	1,327.7	The most exposed to whichever season you happen to close in
Same month, prior year	1,275.0	A cross-check rather than a method, for a seasonal close date

Hoosier Supply Co. (illustrative). $ in thousands. Twelve month-end adjusted balances; the trailing twelve-month average is 1,297.1. Working capital is defined as current assets excluding cash less current liabilities excluding debt, on a cash-free and debt-free basis.

The question to ask your adviser is which month-end balances went into it, and what the peg would be on the other three methods. Working capital adjustments now appear in more than 90 percent of private-target transactions, up from 50 percent a decade ago, so this is a standard conversation rather than a difficult one. Ask it.

The true-up you were promised may not be available

Working capital adjustments are standard in private-target deals and they normally settle sixty to ninety days after closing. On a 7(a) change of ownership the mechanic is asymmetric, and the asymmetry is written into the rulebook rather than negotiated by your lender.

Money moving to the seller after closing is not available

“Seller earnouts are prohibited.” Four words, and they remove the instrument a post-closing adjustment would otherwise reach for. A post-closing payment to the seller contingent on anything is outside the program. Escrow closings are also capped. A lender may use one “for not more than 5 business days to facilitate a loan closing,” and a sixty-day adjustment window has nowhere to sit inside five business days. There is no room.

Money moving back to you is available, with a condition

“Buyer rebates based on business performance are allowed because this is a benefit to the Borrower.” A downward adjustment in your favor is structurable and it has a name. The condition is where it lands. “If the Borrower receives funds based on a rebate from the seller, proceeds must be applied to pay down the principal balance of the 7(a) loan.” It reduces your debt rather than reaching your pocket, and under 13 CFR 120.223 it triggers no subsidy recoupment fee.

SBA SOP 50 10 8.1, Appendix 15 Para. A.1 for earnouts and rebates and Para. C.2 for the equity treatment; Section B, Ch. 2 for the five-business-day escrow limit. Effective 1 October 2026. Quotations are verbatim.

What to do with this at the negotiating table

Settle working capital at closing with a peg you have tested rather than computed, because the post-closing remedy is narrower than the one your counsel is used to drafting. Where an adjustment has to survive closing, structure it as a buyer rebate and price it knowing it pays down principal. And check the arithmetic. Total debt supporting the transaction is limited to the business valuation amount, and any excess has to come in as additional equity on full standby. That comes out of your pocket.

Debt-like items, named, tested and reported even when the answer is nil

Debt-like items are obligations that behave like debt and do not look like it on the face of a balance sheet. Each one is a line an experienced buyer deducts from the price, and the procedure is always the same: name the category, test it, and report the result even when the result is nil and there is nothing to report.

Category	Result	Why it does not look like debt, and where it hides
Accrued paid time off	Clear	Earned, unused, payable in cash the day anyone leaves. On a cash-basis book it appears nowhere
Customer deposits and prepayments	Clear	Cash already received for work not yet done: revenue on the way, an obligation today
Unremitted sales and payroll tax	Clear	Collected in trust and owed to a state. It survives an asset purchase
Deferred compensation and bonuses	Clear	Promised for a period the buyer owns. Usually undocumented, and always remembered
Accrued owner distributions	Clear	Declared and unpaid on an S corporation. Reads as equity, behaves as a payable
Aged payables and capital leases	Clear	A supplier financing the business without a note, and debt with a different word on the document

Hoosier Supply Co. (illustrative). Source: engagement model, from the debt schedule, payroll register, accrual detail and state filings.

All six came back clear here. The debt-like adjustment to the equity bridge is zero. A nil result is still a finding and it belongs in the report, because a report with no debt-like section has not told you whether the work was done. Ask for the section.

Where an asset purchase stops helping

Most buyers in this band buy assets partly because they were told it leaves the liabilities behind, and it leaves most of them behind. Tax is where the reasoning stops. Several states attach the obligation to the business rather than to the entity that incurred it, so a buyer who keeps the doors open and the same customers served inherits the liability along with the trade.

Exposure	On this deal	What was found, and what it costs to settle
Sales and use tax, economic nexus	60 to 90	Three neighboring states with likely economic nexus and no registrations found, plus penalties. Settled through voluntary disclosure and an escrow
Worker classification	20 to 40	Two long-tenured 1099 contractors who look employee-like. Reclassification re-burdens earnings going forward, which moves your coverage ratio
Local and franchise filings	Question	One county gross-receipts filing appears missed. The amounts are usually small and the penalty regime is not

Hoosier Supply Co. (illustrative). $ in thousands. Source: engagement model, from the state filings, the payroll register and the general ledger.

We identify and quantify these and we do not settle them. Clearance certificates, voluntary disclosure and reclassification are tax specialist work, and the referral is part of the engagement. Two 1099 contractors who have worked the counter for nine years is a payroll question with nine years behind it, and the state finds these eventually.

Run the searches before you need them

These cost about $1,500 and a week, and they belong in week one of exclusivity rather than in week ten alongside the loan closing. Every one of them turns up recorded interests and none of them reads a contract, so what they find is narrow, cheap and worth having early.

The search	What it actually finds
UCC-1 financing statements Secretary of state, every state	Every lien against the assets you are buying, in every state the business has operated or held equipment. Stale filings from paid-off loans are common and have to be released before closing
Judgment and litigation County and federal	Docket searches in every county of operation and the federal district. What it misses is a dispute that has not been filed yet, which is why you also ask the question out loud
Tax liens Federal, state, county	Filed liens only. An unpaid liability that nobody has assessed yet does not appear, which is the entire point of the tax section above
Entity good standing And every name it has used	Formation, amendments, registered agent and assumed names. Search every historical name and affiliate, because filings follow the name rather than the business
Bankruptcy and the principals Federal, by name	PACER, on the seller and on every entity he has controlled. A prior filing is not disqualifying, and it changes how you read the rest of the file
Fixtures and titled assets Vehicles and equipment	Titles for anything on wheels, and fixture filings on anything bolted down. SBA requires a lien on a vehicle valued above $20,000 at the time the loan number is assigned, so the list matters to your lender too

LIMESTONE method. The lien requirement on a vehicle above $20,000 is SBA SOP 50 10 8.1.

All six sit near the top of a request list ordered by production time rather than by subject. None of them needs the seller at all, which is exactly why they should be running while you are still waiting on him. Order them in week one.

How this was built, and where it stops

The earnout prohibition, the buyer rebate condition, the five-business-day escrow limit and the vehicle lien threshold are quoted from SOP 50 10 8.1 at the paragraphs named above. The 13 CFR 120.223 point on subsidy recoupment is the regulation. The peg methods, the debt-like categories, the tax exposures and the search list are our own method. Hoosier Supply Co. is a fictional composite used across our published samples, and the whole method is in the field guide, every figure attached to it is illustrative, and we express no conclusion of value.

Three limits. We quantify tax exposures and we do not settle them. Specialist work, and we say so rather than implying otherwise. Nothing here is legal or tax advice. And the SBA material carries a date because a technical update was pending at publication, so we will date any change to this page rather than quietly editing it.

Questions we hear

How does a working capital peg work?

You and the seller agree a normal level of working capital for the business, and the price adjusts for whatever is actually delivered at closing against that level. Deliver more than the peg and the seller is owed the difference. Deliver less and you are owed it. The peg itself is usually an average of month-end balances over some window, struck on a cash-free and debt-free basis, which means cash comes out of the calculation and so does every dollar of interest-bearing debt. It goes wrong in two places. The window, and the testing. A three-month window on a seasonal business measures a season. And an untested peg values receivables nobody has aged and inventory nobody’s looked at.

What is a working capital peg?

It’s the agreed normal level of working capital the seller has to leave in the business. Think of it as the fuel in the tank on the day you take the keys, which is a useful picture right up to the moment somebody asks how much of the fuel is water. Yale puts the consequence better than a definition does: “An inaccurate working capital peg might mean the searcher pays for inventory that is gone by 12:01 AM on the day they take over as CEO.”

How do you build a peg when accounts payable is not tracked monthly and only payments are recorded?

The best technical question in the harvest, and it comes up constantly on businesses this size. You rebuild the balance you need from the documents that do exist. For payables, take the vendor statements at each month end together with the check register, and reconstruct the open balance by matching every invoice to the payment that cleared it after that date. It’s slow, and it isn’t an estimate. For in-transit inventory, work from the purchase orders, the carrier documents and the terms on each order, because the terms tell you when title passed and therefore whose balance sheet it belongs on. Where a month genuinely can’t be rebuilt, say so in the report. Use the months you can and widen the window, rather than pretending to a precision the records don’t support. A peg built on four reconstructed months with the method stated is worth more than twelve months of numbers nobody can source.

How essential is tax diligence on an asset deal?

More essential than on a stock deal. Which isn’t what most buyers assume. The logic that an asset purchase leaves liabilities behind holds for most of them. It fails for the ones that attach to the business rather than the entity. Sales and use tax, payroll tax and a misclassified workforce all follow the operations. They come with you. The exposure on our worked example runs to a range of $80K to $130K across three categories. Against a ten percent injection, that is a meaningful share of the cash you are putting in.

If I do require tax diligence, what is the minimum scope?

Four things, and all four are answerable inside a week. None of them is expensive. State registrations against where the business actually ships, which is the economic nexus question. The payroll register read for anyone paid on a 1099 who looks employee-like. Any local or franchise filing the business should be making and might not be. And confirmation that sales tax collected has actually been remitted, because collected-and-unremitted is money the business is holding in trust for a state rather than an amount it can argue about later. That distinction decides who pays. Anything beyond that is worth buying only if one of those four turns something up. Start there.

Is asking for both a seller note and a five percent escrow holdback double-dipping?

Fair question, and on an SBA deal it’s usually the wrong instrument rather than the wrong idea. Most people answering this question do not know that seller earnouts are prohibited on a 7(a) change of ownership, and that an escrow closing is capped at five business days. So a holdback that was meant to sit for sixty days while something gets resolved has nowhere to live. What survives is a seller note on full standby, which counts toward the equity injection and becomes refinanceable after 36 months in place and current, together with a buyer rebate that pays down principal rather than reaching your pocket. Ask for those two instead. Neither one is double-dipping, and both are available.