accounting for entrepreneurship final Flashcards
(15 cards)
Working capital is
Working capital is the capital of business that is used in its day-to-day operations.
Examples - many companies need inventory, cash, and allow for accounts receivables.
You do not want to have a lot of working capital if you can avoid it!reason generally not good to have a lto fo it, slows down cash to cash cycle, if have a lot of inventory and recievables the firms earnigns are not turning quickly into cash, turning into more receivables and inventory, so in a way wan tto have less working capital than more!!ON FINAL
Working capital = current assets – current liabilities
Working capital =
Working capital = current assets – current liabilities
Current assets assets that turn to cash within one year
Cash and cash equivalents
Inventory
Accounts receivable
Current liabilities liabilities due within one year
Short-term debt
Accounts payable
Accrued liabilities
Current assets
Working capital = current assets – current liabilities
Current assets assets that turn to cash within one year
Cash and cash equivalents
Inventory
Accounts receivable
current liabilities
Current liabilities liabilities due within one year
Short-term debt
Accounts payable
Accrued liabilities
Working capital = current assets – current liabilities
working capital upon exit
The purchase price is often determined on a “cash free and debt free basis”.
-The seller keeps excess (non-operating) cash
-The seller takes responsibility for payment of outstanding long-term debt
-Cash free in addition to purchase price, woners of selling target seller gets to keep excess cash that is not needed as part of working capital, but they are also responsible to pay off debt of target firm
-Usually with private M&A not assumed acquier will take on debt
However, the selling company needs to maintain a certain level of working capital in order to ensure operations are not disrupted during ownership transfer.
Acquirers will insist on a working capital target
Without a target for working capital, sellers could reduce
working capital prior to closing, thereby maximizing their cash proceeds by:
-Aggressively collecting on outstanding Accounts Receivable
-Halting investment in inventory
-Stopping payment of outstanding Payable and Accrued Expenses
the transfer= In some cases, this can be an important component of the purchase price, particularly for companies that hold significant inventory (e.g., CPG, retail, Manufacturers)
working capital adjustment
The purchase price and agreement is determined prior to closing. However, the working capital for any specific company can change over time, due to seasonality and other changes.
As a result, the final purchase price will be adjusted to account for changes in working capital. This adjustment often takes place 90-120 days after closing, once the acquirer has time to verify short term assets and liabilities.
The working capital target may be determined by averaging historical working capital levels or by projecting a suitable working capital level at the time of closing.
Given the subjectivity, setting the target can be a contentious topic.
Working capital adjustment - If working capital at the date of closing is well above (below) the target, the purchase price is adjusted upwards (downwards).
it takes time to verify the workign capital bc it is VERY VERY HARD to know what is actually ythere!! Most of it is inventory, do not know if needs to be written down lot of it is inventory have to write down and figure out what is there on takeover date
This is super hard todo actually can take longer to figure out than purchase price!!!!
MedVR is interested in expanding its offering for use by medical surgeons. To add the required functionality, MedVR enters into an agreement to acquire SurgeonWare. - simple way is to use average is past
Historically, the working capital for SurgeonWare has averaged $1.5M. Therefore, the two companies agree to set the working capital target at $1.5M. The purchase price will be adjusted dollar for dollar for any amount above or below this target.
At the time of closing, SurgeonWare’s total current assets were $8 million, of which $250,000 was excess cash (which will be kept by the seller upon closing).
No additional assets will be retained by the seller. Total current liabilities were $6 million, of which $500,000 was a bank loan which the seller is required to pay back.
Given the closing working capital amount, will MedVR pay more or less for the acquisition? By how much?
At the time of closing, SurgeonWare’s total current assets were $8 million, of which $250,000 was excess cash (which will be kept by the seller upon closing). No additional assets will be retained by the seller. Total current liabilities were $6 million, of which $500,000 was a bank loan which the seller is required to pay back.
Given the closing working capital amount, will MedVR pay more or less for the acquisition? By how much?
Kick out 250,000 and sometimes debt or bank debt as well gets kicked out of current liabilies, what is there actual working capital on day of takeover, ex when target firm didn’t actually kick out capital for once soemtiems goes other way with enough in esscrow account buyer takes back money from escrow account to adjust with lower purchase price =
Adjusted working capital = ($8 million total assets – $250,000 excess cash) – ($6 million total liabilities - $500,000 liabilities assumed by seller) = $2.25 million
$2.25 million adjusted working capital - $1.5 million target = $750,000
MedVR will pay an additional $750,000 for the acquisition of SurgeonWare
As target your goal is to run a business without so much working capital and voncivne them you dotn need as much working capital despite hsirotically say before 2 m we think we can run it on 1.5 negoitations are all about convincing buyer they DO NOT need as much working capital
Just kick out one thing from current assets called debet portion and exesss cash and now we know how much our working capital compres to excess working capital, need to know wha tyou are kicking out of working current asset a
nd working liability!
working capital upon exit 2
If a seller strips working capital out of the business, the buyer would have to infuse the business with more working capital, raising the overall cost to purchase the business.
Will not even pay ontime, stretch out when paing even with slary payable don’t mind making employees mad not employees anymore so have very strong incentive to strip out nonoperating cash
Incentive misalignment from target and acquirer side so if its less tan the working capital target it adjusts downward from purchase price
working capital adjustments 3
Because acquisitions are priced based on a cash and debt free basis:
-Non-operating cash should be excluded from working capital target calculations since the seller will extract excess cash prior to transfer
-Operating cash should be included in the working capital target calculation
-Debt that will be repaid by seller (e.g, bank debt) should also be excluded from working capital target calculations
The method used to calculate working capital might differ from deal-to-deal.
-The procedures for calculating working capital will be specifically spelled out in the purchase agreement, in order to avoid inconsistencies and disputes.
Typically an escrow account will be set up to hold back a portion of the proceeds for 12 months, just in case there are any inconsistencies.
Often, there are 2 separate escrow accounts, one for working capital adjustment and a separate one for any possible dispute over representations and warrantees.
If I agree to take you over for 25M I odn’t pay you 25M right away purchase price can change, so if purchase price goes down or if it goes up buyer can give you a check later
what is also ignored in this:
Not all current assets are counted as this for working capital target which makes it hard and not all CL are the same
Tax assets and liabilities are ignored
Deffered tax liabilities and assets are ignored bc not real cash, just place holders for difference btw tax irs and gaap accounting
Typically you divide cash btw operating and non operating
spring 2022 working capital question 1
Assumptions:
1) Operating Cash. ECars requires operating cash of ($75,000 plus 25% of non-cash current assets
plus 10% of the excess of Property, Plant and Equipment (net) above Long-Term Debt) to run its
business throughout the year. The remaining cash is considered excess cash.
2) Working capital fluctuates through the year, and due to seasonality, working capital (excluding
excess cash) as of the end of July is typically higher than working capital as of May 31st to about
the same extent that Accrued Expenses are bigger at the end of July versus the end of May.
Therefore the buyer and seller agree that the working capital target (excluding the excess cash
portion) for July 31st will be set higher than the actual working capital as of May 31st by the same
percentage that Accrued Expenses at July 31st are higher than they were at May 31st. The
operating cash requirement will be ($75,000 plus 25% of non-cash current assets plus 10% of the
excess of Property, Plant and Equipment (net) above Long-Term Debt) on July 31st.
3) Note that the seller is responsible for paying off all bank debt.
working capital adjustment spring 2022 Q2
Using the information above, including the information on the balance sheet as of July 31st, 2022, what is the working capital target as of July 31st, 2022, including the cash that is needed to fund operations, but excluding any excess cash?
Assumptions:
1) Operating Cash. ECars requires operating cash of ($75,000 plus 25% of non-cash current assets
plus 10% of the excess of Property, Plant and Equipment (net) above Long-Term Debt) to run its
business throughout the year. The remaining cash is considered excess cash.
2) Working capital fluctuates through the year, and due to seasonality, working capital (excluding
excess cash) as of the end of July is typically higher than working capital as of May 31st to about
the same extent that Accrued Expenses are bigger at the end of July versus the end of May.
Therefore the buyer and seller agree that the working capital target (excluding the excess cash
portion) for July 31st will be set higher than the actual working capital as of May 31st by the same
percentage that Accrued Expenses at July 31st are higher than they were at May 31st. The
operating cash requirement will be ($75,000 plus 25% of non-cash current assets plus 10% of the
excess of Property, Plant and Equipment (net) above Long-Term Debt) on July 31st.
3) Note that the seller is responsible for paying off all bank debt.
working capital adjustment spring 2022 Q3
How much of an adjustment will take place to the purchase price due to the balances that are in place as of July 31st, 2022?
Assumptions:
1) Operating Cash. ECars requires operating cash of ($75,000 plus 25% of non-cash current assets
plus 10% of the excess of Property, Plant and Equipment (net) above Long-Term Debt) to run its
business throughout the year. The remaining cash is considered excess cash.
2) Working capital fluctuates through the year, and due to seasonality, working capital (excluding
excess cash) as of the end of July is typically higher than working capital as of May 31st to about
the same extent that Accrued Expenses are bigger at the end of July versus the end of May.
Therefore the buyer and seller agree that the working capital target (excluding the excess cash
portion) for July 31st will be set higher than the actual working capital as of May 31st by the same
percentage that Accrued Expenses at July 31st are higher than they were at May 31st. The
operating cash requirement will be ($75,000 plus 25% of non-cash current assets plus 10% of the
excess of Property, Plant and Equipment (net) above Long-Term Debt) on July 31st.
3) Note that the seller is responsible for paying off all bank debt.
workign capital adjustment spring 2022 Q2 part 2
D36* (F21/D21)
