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How working capital adjustments can affect the purchase price

It’s important to remember when buying a business that the agreed-upon dollar figure may not be the final price tag, says Toronto business lawyer Anton Katz.

“Many people think that when you buy a business, you just pay the amount you've agreed on and that’s it,” says Katz, principal of Anton M. Katz Barrister and Solicitor.

“But it’s not as simple as that. There needs to be an adjustment for working capital,” he tells AdvocateDaily.com

Working capital is essentially the difference between current assets and liabilities, Katz says.

"Current assets would include cash, accounts receivable, and inventory turned within one year," explains Katz. "Current liabilities would be accounts payable, HST, short-term loans and other accrued expenses."

Working capital becomes important when purchasing a business because the figure can fluctuate.

“If I’m selling my business, I could agree to a purchase price of $3 million and a closing date a month away. But between now and the closing date, assets and liabilities can change,” he says.

“There are going to be adjustments in the working capital and the purchase price should be adjusted accordingly up or down.”

Katz says it’s advantageous — for both buyers and sellers — to address this in the purchase agreement.

“The agreement can stipulate the purchase price, but it can also provide that the amount will be adjusted after closing based on a working capital calculation conducted by an accountant,” he says.

The parties would agree on a date on which to do the followup calculation — typically between 30 and 90 days after closing, says Katz.

“These figures can change significantly,” he says. “If you don’t adjust the purchase price, then it’s going to be unfair to the vendor or the purchaser — depending on how those numbers play out.”

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