The Working Capital
Peg

Who This Is For, and When the Peg Actually Gets Locked

This article is written for owners of businesses roughly in the $2 million to $75 million revenue range who are either preparing to go to market or are already sitting across from a letter of intent. If you are in the second group, the timing point below matters more than anything else in this article: the working capital mechanism is usually first mentioned in the letter of intent as a placeholder, often a single sentence promising a “normal level of working capital” with the details to be worked out later. Owners routinely sign that letter without pushing back, because the number itself has not been set yet and there is nothing concrete to object to. The actual peg, the reserve methodology, the collar, and the debt-like items definitions get written during the drafting of the definitive purchase agreement, which happens after the LOI is signed and after you have granted the buyer exclusivity.

That sequencing matters because your leverage is not constant across the process. Before the LOI, you can walk to another buyer. After the LOI, you are usually locked into an exclusivity period, often 60 to 90 days, during which you cannot shop the deal, and the buyer knows it. The working capital schedule gets drafted during exactly that window, which is the point in the process where a seller's negotiating position is weakest and a buyer's is strongest. Our guide on how a lower middle market sale process unfolds covers this sequencing in more detail; the short version for this article is that the traps described below are not being negotiated when you think they are.

What the Working Capital Peg Actually Is

Net working capital, for purposes of a purchase agreement, is not the same thing as the working capital line on your balance sheet. It is a negotiated, defined figure: current assets excluding cash, minus current liabilities excluding debt. Receivables, inventory, and prepaid expenses on one side; accounts payable, accrued payroll, accrued taxes, and other short-term obligations on the other. Cash and interest-bearing debt are pulled out and handled separately, through the cash-free, debt-free structure most lower middle market deals use. Exactly which accounts sit in which bucket is not a matter of accounting theory. It is a matter of what gets written into a schedule attached to the purchase agreement, and that schedule is negotiable, line by line, long before anyone signs anything.

The peg itself is the number the seller is contractually required to deliver at closing. Womble Bond Dickinson describes it as the normalized working capital of the business over an agreed period, “most commonly the trailing twelve months, though it may be shorter or longer depending on the nature of the business.” The logic is that an average represents a normal operating level the business needs to keep running without the buyer injecting new capital on day one. That logic is sound in principle. It breaks in practice for one specific reason: the peg is an average, and the number it gets compared against on closing day is a snapshot. Averages and snapshots do not have to agree. When they disagree, somebody pays.

After closing, a closing statement is prepared showing actual net working capital as of the closing date. Womble puts the delivery deadline at “a specified number of days after closing, commonly 90 days,” with the seller then having “often 30 days” to serve a written objection. The buyer's team usually drafts that statement first. If the two sides cannot agree, the dispute goes to an independent accountant named in the agreement, whose ruling is generally binding. Below the peg, the seller pays the buyer, usually out of an escrow set aside for exactly this purpose. Above it, the buyer pays the seller. On paper the mechanism is symmetric. It is not symmetric in operation, for reasons covered in Traps Seven and Eight below.

The buyer also holds an advantage that has nothing to do with the contract language. By the time the closing statement is prepared, the buyer owns and is running the business. The buyer's team has the books, the staff, and the transition period in hand. The seller is reviewing a closing statement from the outside, usually without the day-to-day access to source records they had a quarter earlier. That asymmetry compounds whatever the agreement says about who drafts first.

One more mechanical piece is worth knowing before you ever see a term sheet. A collar, sometimes called a deadband, is a negotiated range around the peg inside which no payment is owed by either side. A $1,000,000 peg with a plus-or-minus $50,000 collar means nothing changes hands unless actual working capital lands outside $950,000 to $1,050,000, and then only the amount beyond the collar is settled. A collar exists to keep ordinary accounting noise from becoming a formal dispute. Womble's alert uses “$100,000 or 1–2% of the Peg” as an illustrative threshold, which is a drafting example rather than survey data. We can tell you exactly how a collar works. We cannot tell you how often lower middle market deals actually include one, because the ABA study that would answer that is paywalled and we could not verify a prevalence figure we would put our name on. If a collar matters to your deal, that is a question for your own counsel, not a statistic we are willing to invent. The wider equity value bridge this sits inside is covered in our guide to EBITDA and business valuation basics. This article is about the one piece of that bridge that keeps moving after the ink is dry.

How the Peg Gets Set: The Averaging Window Is the Whole Negotiation

Ask most owners what they negotiated on working capital and they will tell you the dollar number. The dollar number is an output. The input is the averaging window, and it is the single most consequential term in the entire schedule. EisnerAmper states it plainly: “the length of time that the average NWC is calculated is a negotiated item and can vary based on the business cyclicality, seasonality and other factors impacting the business resulting in a longer period (e.g., 24 months) or shorter period (e.g., three or six months) of time.” Morgan & Westfield puts the default at twelve months while noting the window “could be shorter, three or six months, if it better reflects the operations of the business or the near-future outlook.”

Neither source quantifies what the choice is worth. That arithmetic is ours, and you can rerun it against your own trial balance in an afternoon. Two businesses follow, with deliberately different seasonality shapes, because the conclusion flips between them.

Shape One: A Summer-Peak Services Business

Monthly net working capital across the trailing year, in thousands: January 350, February 340, March 420, April 620, May 880, June 1,050, July 1,120, August 1,080, September 860, October 600, November 420, December 360. The twelve months sum to $8,100,000, so a trailing-twelve-month average peg lands at $675,000.

Now pick a closing date. Close in July, at $1,120,000 of actual working capital, and the buyer owes you $445,000. Close in March, at $420,000, and you owe the buyer $255,000. Identical business, identical peg, identical accounting. A $700,000 swing that turns entirely on which month the lawyers finished papering the deal.

Change the window instead of the month. Suppose the letter of intent is signed in February and the peg is struck on a trailing three-month average of December, January, and February: $360,000 plus $350,000 plus $340,000, divided by three, is $350,000. Against the same March closing at $420,000, you are now owed $70,000 rather than owing $255,000. One clause, changed from twelve to three, is worth $325,000 to you on a business carrying well under a million dollars of working capital.

The defensible answer for a business this seasonal is neither. Take March in each of the two prior years, say $405,000 and $435,000, average them, and the peg is $420,000. A March closing then produces no adjustment at all, which is what a peg is supposed to do. That is what “model the peg against your closing month” actually means in numbers.

Shape Two: An Inventory-Heavy Business That Builds Into Q4

Now a distributor whose working capital inverts the same calendar. Monthly, in thousands: January 1,450, February 1,300, March 1,250, April 1,280, May 1,350, June 1,400, July 1,600, August 1,950, September 2,400, October 2,750, November 2,500, December 1,700. The twelve months sum to $20,930,000, so the trailing-twelve-month peg rounds to $1,744,000. Dollar figures in this second example are rounded to the nearest thousand.

Close October 31, at $2,750,000, and the buyer owes you $1,006,000. Close March 31, at $1,250,000, and you owe the buyer $494,000. Note what just happened against Shape One. In the summer-peak business, closing in the fourth quarter was the worst possible outcome. In the distributor, the fourth quarter is the best. There is no portable rule of thumb here, no “close before year end” heuristic that survives contact with a second business. The answer is specific to your own twelve rows.

The window fight gets sharper still on this shape, because the amplitude is larger. A buyer who signs in November and proposes a trailing three-month peg is proposing September, October, and November: $2,400,000 plus $2,750,000 plus $2,500,000, divided by three, is $2,550,000. Against a March closing at $1,250,000, that peg hands the buyer a $1,300,000 clawback. A seller who signs in June and proposes trailing three months gets April, May, and June, or $1,343,000, which against an October closing produces a $1,407,000 payment running the other way. Same twelve months of history, same true-up clause, a $2.7 million spread in outcomes decided by which three months somebody picked and when.

That is why the averaging window belongs in the letter of intent, in writing, alongside the multiple. Once you are inside exclusivity, you are arguing about a methodology the buyer has already drafted. The right time to fix it is the week before you have anything to lose.

How Common This Mechanism Is, and Where the Data Turns Soft

This is not a fringe concern. SRS Acquiom's 2025 Working Capital Purchase Price Adjustment Study reports that working capital adjustments are “present in more than 90% of private-target M&A transactions today, up from 50% just a decade ago,” drawn from more than 1,200 private-target acquisitions worth over $298 billion.

The other recurring dataset is the American Bar Association's Private Target Mergers & Acquisitions Deal Points Study. Reading Wagner Hicks PLLC's summary of the 2025 edition, 90% of deals included a post-closing purchase price adjustment covering working capital, debt, transaction expenses, and cash on hand, down slightly from 92% in the prior study. More usefully for a seller, 58% of deals now require a separate escrow for these adjustments rather than relying on the general indemnity escrow or a bare contractual promise to pay. That is a structural shift worth noticing. Buyers are treating the true-up as its own risk category with its own pool of money behind it.

One sourcing note, because it is the kind of thing that gets copied badly. The ABA's own announcement page for the 2025 study does not publish these data points; it announces the study and points members to the download. Plenty of articles cite that announcement as though the numbers were on it. They are not. The figures above come from a law firm summary that actually contains them, which is what we have linked.

Two limits on the ABA data are worth stating outright. First, the study is member-restricted, so we are reading a law firm's summary rather than the tables. Second, and more important for the businesses we work with, the ABA's own preview of the 2025 edition describes a sample of transactions between $25 million and $900 million in purchase price, with most at $200 million or below. That is a middle-market sample sitting above the $2 million to $75 million revenue band this article is written for. The mechanism it describes is identical at every size. The prevalence rates may not be. Anyone who quotes an ABA percentage at you as though it were measured on companies your size is overreaching, including us if we did it.

The SRS Acquiom study carries the same paywall limitation. Its headline findings are published on the firm's own study page and were separately written up by DealLawyers.com, and those two sources are what we are citing. We have not seen the underlying data tables and we are not going to manufacture a more precise number than what was actually published.

The Headline Number, Stated Carefully

Here is the finding that should matter more to you than any multiple you negotiate, and it needs to be quoted exactly rather than paraphrased. DealLawyers.com's write-up of the SRS Acquiom study reports that “buyers' proposed calculations were reviewed and ultimately accepted in 7 out of 10 PPAs.”

Note what that sentence says and what it does not, because the misquoted version is everywhere. It is a statement about purchase price adjustments generally: the buyer's number survived review in seven of ten. It is not a win rate confined to formally contested disputes, which is how you will usually see it repeated, and the narrower framing is both wrong and less useful. The published finding is broader and, for a seller, arguably worse. The buyer's number tends to stand not because sellers keep losing arguments but because most of the time no real argument gets made. Whoever drafts the first number usually keeps it.

The same analysis sizes the money at risk. The median separate purchase price adjustment escrow has held at about 1% of transaction value for two years running. The median buyer claim runs 0.9% of transaction value, close enough to the escrow that there is almost no cushion, and 24% of claims exceeded 1% of transaction value outright. That last figure is the one sellers miss. Roughly one claim in four is larger than the entire escrow that was supposed to contain it, which means the escrow is not a cap on your exposure unless the agreement says in terms that it is.

Two findings cut the other way, and leaving them out would be dishonest. SRS Acquiom reports “nearly equal prevalence of claims and surpluses for deals closed in 2024,” meaning cases where the buyer ends up owing the seller have become roughly as common as the reverse. And contested claims resolve fast, in under two months on a median basis.

The honest read: the mechanism has grown more balanced, and a seller today is meaningfully more likely to be owed money than a seller five years ago. That does not change the structural point. The party who prepares the first calculation usually ends up with it, and that party is the buyer.

Both studies are cited from published summaries and the vendors' own study pages, not from the underlying data tables. The ABA sample sits above the deal size band this article addresses, which is stated in the row above rather than buried in a footnote.

Claims About Working Capital Disputes That Do Not Survive Checking

Just as we did in our article on the quality of earnings report, we tried to verify the broader statistics that circulate around working capital disputes before repeating any of them here. Several did not hold up, and because they get quoted at sellers to create urgency, they are worth naming individually rather than quietly leaving out.

None of that changes the underlying argument of this article. The mechanism is real, it is common, and it structurally favors the buyer in a contested dispute — all of that is defensible on the figures above. What is not defensible is dressing up the case with a statistic that will not survive someone checking it, which is exactly the mistake a lot of the content written about this topic makes.

The Eight Traps That Move the Peg After You've Signed

Category labels like “seasonality risk” or “reserve risk” are useless to an owner staring at a closing statement. What follows is the arithmetic and the drafting, because knowing that reserve methodology gets scrutinized is worth nothing next to knowing exactly how a 2% versus 5% assumption on the same receivables balance becomes a five-figure hit. The mechanisms are documented by the named legal and advisory sources cited under each one. The dollar illustrations are ours.

Trap One: Unmodeled Seasonality

The arithmetic is in the two worked shapes above, so here is the part that is easy to miss: this trap is almost never malicious. EBADAT calls it “the unmodeled peg,” and describes the outcome in one sentence: “The closing date falls in a low working capital month, and the seller owes a multi-million-dollar adjustment back to the buyer that nobody had projected.”

A trailing-twelve-month average is the easiest number for two sides to agree on in a letter of intent, back when nobody has picked a closing date yet. It becomes the default because complicating the math has no constituency at that stage, not because a buyer is laying a trap. By the time a real closing date exists and the seasonal exposure becomes visible, the peg language in the definitive agreement is already drafted around the simple average, and reopening it reads as relitigating a settled term. The window for fixing this closes while the peg is still an abstraction.

One counter-argument deserves a straight answer, because a buyer will make it. Morgan & Westfield writes that “calculations based on the trailing 12 months will naturally factor out seasonality,” and that is true of the peg. It is not true of the closing-date measurement the peg gets compared against. Averaging smooths the target. It does nothing to the snapshot. That gap is the entire trap, and it is why a twelve-month average is the right answer for a steady business and the wrong one for a seasonal business closing outside its average month.

Trap Two: Reserve Methodology Shift

Reserves are the amounts set aside against receivables that will never be collected, or inventory that will never sell at full value. Each is a percentage applied to a balance, and the percentage is a judgment call. Your bookkeeper's judgment and the buyer's post-closing accountant's judgment do not have to match. They routinely do not.

Say your historical bad-debt reserve runs 2% of accounts receivable, which is what your books have always used. On $500,000 of receivables, that is a $10,000 reserve. The buyer's accountants apply a more conservative 5% to the same $500,000 and book $25,000. Your working capital just fell $15,000 with no new bad debt and no change in collections. Only the percentage changed. Run the same logic on inventory obsolescence: your historical 2% on $400,000 of inventory is $8,000, the buyer's 7% on the identical balance is $28,000, a $20,000 gap. Those two lines alone move $35,000, before anyone touches warranty reserves or vacation accrual assumptions. Scale the same spread to the receivables and inventory balances of a $5 million business and reserve methodology on its own can move $75,000 to $150,000. That range is our estimate from the arithmetic, not a surveyed figure.

Fix it by specifying reserve methodology at the line-item level in the agreement itself. Lock the aging buckets and the percentage applied to each one, so the buyer's team is calculating against an agreed formula instead of substituting their judgment for yours after the fact.

Understand why the gap opens, because it is rarely evidence that anything is wrong with your books. Reserve percentages sit inside a genuinely defensible range under standard practice, and a buyer's incoming auditors are usually applying a firm-wide template calibrated to their broader portfolio rather than a percentage benchmarked to your write-off history. If your reserve was never tested against your actual bad-debt experience, “that is what our books have always used” is a weak thing to bring to an independent accountant. It describes your habit, not your risk. Do the benchmarking before the number becomes a negotiating point. This is the same work a quality of earnings report performs, which is one reason a sell-side QoE pays for itself in this schedule rather than in the multiple.

Trap Three: The GAAP-Versus-Past-Practice Ordering Conflict

This is the one that reached the Delaware Supreme Court, and it is the most under-read clause in the entire schedule.

Nearly every agreement defines working capital by reference to two standards at once. Thompson Coburn LLP describes the usual formulation: components are to be calculated “in accordance with GAAP (subject to agreed exceptions), ‘consistently applied,’ or ‘consistent with past practice.’” The two standards agree right up until they don't, and the agreement usually never says which one wins. Thompson Coburn's observation on what happens next is the whole problem in nine words: “each side tends to apply the standard that favors its position.”

In Chicago Bridge & Iron Company N.V. v. Westinghouse Electric Company LLC, decided by the Supreme Court of Delaware on June 27, 2017, the purchase agreement said working capital was “to be determined in a manner consistent with GAAP, consistently applied by [Chicago Bridge] in preparation of the financial statements of the Business,” with separate language requiring consistency with “past practices.” Against a target of $1.174 billion, the seller's closing statement showed net working capital of $1.6 billion, roughly $428 million in the seller's favor. The buyer ran the same balance sheet under its own reading of GAAP and arrived at negative $976.5 million, which the opinion notes was “more than $2 billion less than the Target.”

Sit with that. One clause, one balance sheet, two accounting standards stacked in an unspecified order, and a spread of roughly $2.6 billion between the two sides' answers.

The Delaware Supreme Court reversed the Court of Chancery and held that the true-up “is an important, but narrow, subordinate, and cabined remedy available to address any developments affecting [the target's] working capital that occurred in the period between signing and closing.” The buyer's arguments that the seller's “historical financial statements and practices did not comply with GAAP may not be heard in proceedings before the Independent Auditor.” Jones Day's analysis reads the decision the same way: a working capital true-up is not a vehicle for relitigating the accuracy of the seller's historical financials.

That is a seller-favorable rule, and it is worth knowing your side won. It is not self-executing. The seller in that case had a purpose-built liability bar in its agreement and spent two years and a Supreme Court appeal establishing the point. You will not. Mayer Brown, writing in 2025, frames the practical drafting question as whether GAAP operates as the “floor” with the requirement of consistency with the historical balance sheet then narrowing “the expert's available choices under GAAP.”

The lower middle market version of this costs less and works the same. Suppose your books have always capitalized $60,000 of tooling and setup costs that a buyer's auditor argues GAAP requires expensing. Under a clause that puts GAAP first, that $60,000 leaves your working capital. Under a clause that puts your historical practice first, it stays. Nobody committed fraud, nothing about the business changed, and the ordering of two phrases in a definition moved $60,000. Ask your counsel for an express tie-breaker sentence stating which standard controls if they conflict, and for a sample calculation attached as a schedule. DCS Legal makes the same recommendation, agreeing example calculations early to “flush out any areas of disagreement over how certain items are going to be treated.”

Trap Four: Deferred Revenue and Customer Deposits

A customer prepays $500,000 for a year of service. The seller keeps that cash at closing. The buyer inherits the obligation to deliver a full year of service without the cash that was supposed to fund it. If the agreement does not address this directly, that is a $500,000 swing against the seller: the obligation transfers, the asset that offsets it does not.

Lutz is refreshingly blunt that “there is no textbook answer” here. Their recommended resolution is specific and worth quoting, because it is the position a seller should expect to be pushed toward: “The most logical way to settle this issue is to have the seller leave any cash received in advance from customers in the business and include the deferred revenue in the NWC calculation.” Note what that does. It treats deferred revenue as an ordinary current liability inside working capital and pairs it with the cash that funds it, rather than letting the liability travel to the buyer while the cash goes to the seller. That is a coherent answer. It is not the only one drafted, and it is not the one a buyer's counsel will propose first.

The exposure is heaviest in subscription, membership, and service-contract businesses, which is where the irony lands. The companies most exposed here are the ones growing their prepaid book fastest, and that growth is frequently the reason a buyer is paying a premium multiple. A rising deferred revenue balance is a rising unaddressed exposure arriving exactly when the seller has the most reason to feel good. Whether it reads as a selling point or a working capital liability is decided by a few sentences in a definitions schedule.

Trap Five: The Cash-Free, Debt-Free Definitional Trap

The standard lower middle market structure is cash-free, debt-free. DCS Legal sets out the bridge as “Equity value = enterprise value + cash – debt +/- working capital excess/shortfall,” and makes the point that “free” refers only to the headline figure not taking the target's cash or debt position into account. The trap is definitional rather than adversarial. Agreements attach a schedule listing which items count as debt-like despite never touching a loan account. Deferred revenue, unfunded pension obligations, accrued but unpaid transaction bonuses, and deferred compensation are the usual candidates.

Auxo Capital Advisors puts the risk precisely: “The same account can be debt-like, working capital, an EBITDA adjustment, an indemnity item, or no adjustment at all depending on the facts and drafting,” and “when the same account appears in both calculations, the seller can lose value twice unless the definitions include an explicit exclusion or credit.” Read that second clause carefully. The protection is not automatic. It exists only if somebody drafted it.

Buyer's counsel typically writes the first version of this schedule, and the natural incentive is to define broadly, usually with a catch-all covering any other obligation of a similar nature not otherwise listed. Open-ended language gives the buyer room to characterize a newly discovered item as debt-like after the fact, even if nobody discussed it during negotiations. Your leverage to demand a tight, fully enumerated list with no catch-all peaks before the letter of intent and bottoms out once exclusivity begins, which is precisely backwards from when most sellers first read this schedule closely. The specific wording is legal drafting and belongs with your counsel, not your advisor.

Trap Six: Accrued Commissions, Double-Counted

A salesperson earns a $50,000 commission in December on a deal that pays out in January. That accrual already sits inside the working capital peg, because commission accruals are a routine recurring liability. The trap springs when the same $50,000 is also pulled out and separately deducted as a debt-like item under the cash-free, debt-free schedule.

Be precise about the damage, because it is easy to overstate. The seller is charged $100,000 in total against a $50,000 obligation. The excess $50,000 is pure leakage, and it is the number to argue about. Auxo Capital Advisors names the item type directly: “Accrued bonuses, commissions, and deferred compensation: Employees earned the amount before closing, but the buyer will fund payment later.” They also flag a three-way reconciliation problem most sellers never run, between “the expense recognized in EBITDA, the liability included in working capital, and the amount that will actually be paid.” Three documents, one obligation, and no automatic mechanism keeping them consistent.

Of the eight traps here, this is the least likely to be deliberate. The working capital schedule and the debt-like items schedule are often drafted by different people on the buyer's side, sometimes different firms, working from different source documents weeks apart. Nobody sets out to double-count a commission accrual. It happens because two schedules that were never reconciled against each other each independently made a defensible decision to include it. The seller pays for that lack of coordination either way, which is why the cross-check has to happen on your side of the table. Pull both schedules, put them next to the same trial balance, and go line by line. It is an afternoon of work, and on a mid-sized deal it is frequently the highest-return afternoon in the entire process.

Trap Seven: The Procedural Clock

Three drafting decisions determine whether you get a real chance to contest the closing statement, and none of them look like money on the page.

Who prepares it. The buyer, almost always, and the buyer is by then operating the business and holding the records. Womble Bond Dickinson puts delivery “within a specified number of days after closing, commonly 90 days.” Morgan & Westfield gives a wider band, with working capital “trued up, 60 to 120 days after the closing.”

How long you have to object. Womble says the seller has “often 30 days.” Stout is blunter: “30 days would be market.” Darrow Everett reports a range of 30 to 45 days. Do the practical math on a 30-day clock. You must reconstruct a closing balance sheet for a business you no longer own, from records now controlled by the buyer, get your accountant to review it, and serve a specific written objection. Thirty days is not generous. It is barely adequate, and it is only adequate if the supporting workpapers arrive on day one.

What happens if the clock runs out. Darrow Everett states the consequence in a single sentence: “If the seller does not object, the NWC will become final.” Silence is not a neutral act. It is acceptance, and it is unappealable. A seller who spends three weeks waiting on the buyer's accounting team to produce backup and then discovers there are nine days left has already lost most of the fight.

The three asks that follow from this are cheap to negotiate before signature and impossible after. First, an objection window of 45 or 60 days rather than 30. Second, an express covenant giving you and your accountant access to the books, records, and supporting workpapers used to prepare the statement. Third, and most valuable, a tolling provision so the objection period does not begin running until the buyer has actually delivered that supporting documentation. Without the third, the first two can be defeated simply by responding slowly.

Trap Eight: The Independent Accountant Is Narrower Than You Think

Sellers picture a neutral judge hearing the case fresh. That is not what the clause buys.

Start with the label. Agreements almost universally provide that the accountant acts as an expert and not as an arbitrator. In Chicago Bridge the auditor was to function “solely as an expert and not an arbitrator,” and the Delaware Supreme Court held it “did not have a wide-ranging brief to adjudicate all disputes between Chicago Bridge and Westinghouse under the Purchase Agreement, but rather one confined to a discrete set of narrow disputes.” The same opinion notes the auditor was to decide “solely on written submissions,” had thirty days, and was to deliver its conclusion as “a brief written statement.” No hearing, no discovery, no witnesses. A month and a memo.

Delaware courts now apply what Sidley Austin describes as an “authority test,” which “turns primarily on the degree of authority delegated to the decision-maker” and asks whether that grant resembles “the broad authority conferred on a legal arbitrator” or something “narrower and involv[ing] more fact-like determinations.” Labels alone are not dispositive. What the clause actually empowers the accountant to do is.

Three concrete limits follow, and each one can cost a seller real money.

The review covers only what you objected to. Mayer Brown, describing a recent dispute, notes the accounting expert “was to limit its review to unresolved matters that were properly included in the seller's statement of objections.” Womble states the general rule the same way: “The accountant's review is typically limited to the specific items in dispute, and its determination is generally final, conclusive, and binding on both parties, absent manifest error.” An error you fail to raise in your objection notice is not preserved. It is gone, whether or not it was real.

The accountant usually cannot go outside the range you set. Standard clause language, of the kind collected in contract databases such as Law Insider's settlement accountant entries, provides that the accountant “may not calculate [the disputed item] greater than the greatest value ... claimed by either Party or less than the smallest value ... claimed by either Party,” and “shall act as an expert and not as an arbitrator.” The consequence for a seller is direct and counterintuitive. If the buyer's statement says $600,000 and your objection says $900,000, the accountant cannot award $950,000 even if $950,000 is demonstrably correct. Your own objection notice is your ceiling. Understate your position to appear reasonable and you have capped your own recovery before anyone has read a workpaper.

The fee allocation shapes behavior. Womble reports that costs are “customarily allocated between the buyer and seller in inverse proportion to the extent each party prevails on the disputed items.” That is a sensible rule which quietly penalizes throwing in weak items alongside strong ones. Every marginal objection you lose increases your share of the bill.

None of this is improper, and the accountants doing this work operate under professional standards. The AICPA's Mergers and Acquisitions practice aid is written for practitioners providing M&A dispute consulting services “whether as a neutral practitioner, a consultant, or an expert witness,” and treats post-closing purchase price adjustments as one of its core subjects alongside earnouts and representation and warranty disputes. The role is real and it is regulated. It is simply a much narrower and more procedural thing than “an independent party will sort this out fairly,” and it systematically rewards whichever side arrives with better documentation on each individual line. In practice that is the side with a deal team that does this for a living.

A Worked Example: How the Traps Compound

Be clear on what the following table is and is not. It is not a documented transaction and not drawn from a single verified deal. It is a constructed illustration, assembled from the separately sourced mechanisms above, showing what happens when more than one lands on the same deal. In our experience that is closer to the norm than the exception once you start looking.

Take a $5 million deal with a $1,000,000 working capital peg. Layer in a $200,000 deferred revenue swing, a $50,000 double-counted accrued commission, a $75,000 reserve-methodology shift, and a $100,000 seasonality effect from a low-month closing.

A $425,000 shortfall against a $1,000,000 peg, on a $5 million deal, is 8.5% of the whole transaction. It is handed back after the price was agreed, after the deal closed, and usually after the seller has mentally spent the proceeds. This combination is constructed to show how four separately sourced mechanisms compound. It is not a statistic, not an average, and not a prediction about your deal. It is a demonstration of why the working capital schedule deserves the attention you gave the multiple.

Now run it against the escrow data. SRS Acquiom put the median separate adjustment escrow at roughly 1% of transaction value, which on a $5 million deal is about $50,000. A $425,000 shortfall is more than eight times that. Recall too that 24% of claims exceed 1% of transaction value, so a claim larger than the escrow is not an exotic outcome. Unless your agreement says in terms that the escrow is your sole recourse for purchase price adjustment claims, a seller relying on it as a cap can still owe the buyer directly, out of pocket, for the balance. Escrow size and exclusivity of remedy are both negotiated terms. Ask your attorney to confirm in writing which one you have.

The Mechanism That Removes the Fight Entirely

Everything above assumes a completion accounts deal, where the price is trued up against a closing balance sheet. There is another way to do this, and almost nobody offers it to a lower middle market seller.

Under a locked box, the price is fixed before closing and there is no post-closing adjustment at all. EY describes it as the parties agreeing “on the final purchase price using the company's most recent audited financial statements” with “no post-completion adjustment,” which “provides the parties with certainty already at completion as to what the final purchase price will be.” Under completion accounts, by contrast, “the final purchase price will only be determined post-completion, often several months later.” Auxo Capital Advisors frames the same structure as fixing equity value “by reference to historical accounts at an agreed locked box date” and protecting the buyer “through restrictions on leakage rather than a conventional post-closing adjustment.”

Leakage is the substitute mechanism. Auxo defines it as “value transferred from the target company to the seller, shareholders, or related parties after the locked box date,” typically dividends, distributions, management fees, and related-party payments. Permitted leakage is what the agreement expressly carves out, which may include ordinary salary, specified bonuses, and identified shareholder debt repayment. So the seller trades a fight about receivables reserves for a covenant about what they may take out of the business between the locked box date and closing. That is a materially easier thing to comply with and a materially easier thing to prove.

Two honest caveats before you ask for one.

The first is availability. Auxo notes completion accounts stay common in US deals because “buyers, lenders, accountants, and counsel commonly expect a closing balance-sheet adjustment,” while locked box is “more established in many European auction and sponsor-led transactions” where “sellers often provide extensive vendor diligence” and “buyers compete on a fixed-price basis.” The structural requirement there is the part sellers miss: a locked box works because the buyer trusts a historical balance sheet enough to fix a price against it. For a $2 million to $75 million revenue business with compiled or reviewed-only financials, that trust generally does not exist, and no amount of asking will create it. A sell-side quality of earnings report is the thing that builds it. This is the strongest practical argument for commissioning one that we know of, and it has nothing to do with defending your EBITDA.

The second caveat is that a locked box is not free. Fixing the price at a historical date means any working capital the business builds between that date and closing transfers to the buyer, which is usually priced back through an interest charge on the equity value running from the locked box date. Auxo also flags that the structure “requires robust pre-signing diligence and strict compliance with interim covenants and leakage restrictions.” You are exchanging one set of obligations for another, not escaping them.

We could not find published prevalence data for locked box structures in US lower middle market transactions, so we are not going to tell you how often it is available at your size. What we will say is that most sellers never learn the option exists, and asking the question early costs nothing.

How This Plays Out by Sector

• Childcare and early education. Tuition prepayments and enrollment deposits create the exact deferred-revenue exposure in Trap Four, sitting on top of real seasonal enrollment swings around the school calendar. Both shapes in the averaging-window section apply at once. See childcare and daycare valuation multiples.
• Managed IT services. Annual and multi-year contracts billed up front make deferred revenue treatment and the debt-like items schedule the two clauses to read hardest. An MSP with a large prepaid book is the classic candidate for the double-charge in Trap Five. See MSP valuation multiples.
• Industrials and manufacturing. Inventory is where the peg fight actually happens. Raw material and finished-goods obsolescence percentages are pure judgment, and they sit on the largest balance on the schedule, which makes Trap Two disproportionately expensive here. Our guide to manufacturing valuation multiples covers how inventory-heavy balance sheets are valued going in, and our guide to manufacturing M&A advisors covers who negotiates it.
• Business services. Accrued commission and bonus structures tied to project completion are where Trap Six shows up most, particularly in commission-heavy sales organizations. See our guide to business services M&A advisors and the sector's valuation multiples.
• Across every sector, the pattern holds: the peg is set using your historical accounting and the true-up is calculated using someone else's. Net working capital analysis is also a standard workstream inside a quality of earnings report, which means a sell-side QoE is the cheapest place to find these problems. Our sector expertise overview covers how each industry's working capital profile differs going into a deal.

How to Protect the Peg Before You Sign

Everything above points one direction. The peg is negotiated once, in the purchase agreement, and what happens afterward is either the mechanical consequence of that document or a fight about what it means. None of what follows is legal advice and none of it substitutes for your own deal attorney reading your actual language. These are the questions worth putting in front of that attorney before you sign, not a checklist you complete alone.

Settle the averaging window before you settle the number, in the letter of intent, in writing. If your revenue moves by season, insist on same-month comparisons across two or three prior years rather than a flat trailing average. Get the reserve methodology written into the schedule itself, with the exact aging buckets and the exact percentage applied to each, so nobody substitutes a firm-wide template for your history after closing. Ask for an express tie-breaker stating whether GAAP or your historical practice governs when the two conflict, and get a sample calculation attached as an exhibit. Get written treatment for deferred revenue and customer deposits stating whether they sit inside working capital, inside the debt-like items schedule, or are handled by a separate mechanism; ambiguity here resolves in the buyer's favor by default, because the buyer drafts first. Cross-reference the working capital schedule against the debt-like items schedule line by line against the same trial balance, hunting for any accrual that could plausibly be counted twice. Then negotiate the clock: a 45- or 60-day objection window, an access covenant covering books and workpapers, and a tolling provision so the window does not start until the backup actually arrives.

These are prompts for a conversation with your own counsel, not a substitute for one. Every one of them is a drafting question about the language in your specific purchase agreement, and the right answer depends on facts about your business and your buyer that no general article can know.

None of this goes well under deadline pressure inside a 60-day exclusivity window. It belongs in the preparation window described in our guide on when to start exit planning, and it connects directly to the diligence work in our quality of earnings report article. The same reserve and revenue-recognition questions a QoE tests are the ones that get disputed in the true-up, which is why net working capital analysis is a standard QoE workstream rather than an afterthought. Understanding how a lower middle market sale process unfolds, and specifically when the working capital schedule actually gets locked, matters more here than almost anywhere else in the deal. Terms used throughout this article, including true-up, collar, and cash-free debt-free, are defined in our M&A glossary for the lower middle market.

Know who is across the table. A private equity buyer with an in-house deal team or a portfolio-company CFO has run this exact playbook dozens of times and has default language they reach for without thinking. A strategic buyer's team may be running it for the first time in years, which cuts both ways: less practiced, but also less willing to concede a point they do not fully understand. Either way, a generalist broker doing one or two deals a year rarely carries the line-by-line memory on reserve methodology and debt-like items that a dedicated advisor builds by repetition. See our comparison of a sell-side advisor versus a business broker and our breakdown of a strategic buyer versus a private equity buyer. What a buyer scrutinizes in this schedule is of a piece with what they scrutinize everywhere else, covered in our guide on what buyers look for in an acquisition target.