How to Maximize the Purchase Price When Selling Your Company

We have described the difference between Enterprise Value and Equity Value in a separate article. In this article, we focus instead on the measures a business owner can take to optimize the Equity Value and, thereby, the final purchase price.

The company's net debt or net cash, working capital, and other balance sheet items can have a major impact on the value that ultimately accrues to the owners. There are therefore often opportunities to optimize the company's balance sheet and capital tied up well in advance of a sale.

However, it is important that this optimization does not come at the expense of the underlying business. Measures that impair sales, delivery capacity, customer relationships, or profitability risk leading to a lower Enterprise Value instead.

Furthermore, this type of improvement often takes time. If you want them to have a full impact on a future sale, it is therefore important to start the work well in advance.

From Enterprise Value to actual purchase price

A simplified bridge from Enterprise Value to the final purchase price can look like this:

Enterprise Value
– net debt / + net cash
= equity value before other purchase price adjustments
+/– working capital adjustment
+/– any other adjustments
= final purchase price

Once the Enterprise Value has been established, there are several factors that can affect how much of that value actually accrues to the shareholders.

Fundamentally, optimization is often about:

• maximizing net cash
• reducing the capital tied up in running the business
• identifying and managing debt-like items
• ensuring that improvements are structural and sustainable

The latter is crucial. Temporarily improving cash flow just before closing does not normally create corresponding value if the measure simultaneously leads to lower working capital.

In this article, we primarily focus on a transaction using a so-called completion accounts mechanism, where items such as net debt and working capital are determined as of the closing date. In the case of a locked box mechanism, for example, the purchase price mechanics function differently. You can read more about the differences between various purchase price mechanisms in our separate article on completion accounts and locked box.

Which assets are assumed to be included in the business, and what is normalized working capital?

Enterprise value is not a summation of specific assets on the balance sheet. However, the valuation of the operating business generally assumes that the assets required to conduct operations in the normal course of business remain with the company.

This may include, for example, machinery, fixtures, and other equipment used in day-to-day operations. Consequently, the seller does not typically receive separate compensation for these assets beyond the enterprise value.

Enterprise value is also usually determined on a so-called cash-free and debt-free basis. Simply put, this means that net cash and net debt are handled separately. If the company has net cash at closing, this generally increases the value accruing to shareholders, while net debt typically reduces it.

Working capital is also an important part of the purchase price mechanism. Working capital can, for example, consist of:

• accounts receivable
• inventory
• accounts payable
• other short-term operating receivables and liabilities

The starting point is usually that the buyer should take over a business with a normal level of working capital, i.e., the level required for the business to continue operating in the normal course. This level is usually referred to as normalized working capital.

If the actual working capital on the closing date exceeds the agreed-upon normalized working capital, the seller may typically receive a positive purchase price adjustment. If, instead, the working capital is lower than the normalized working capital, a negative adjustment is usually made.

The question of what level should be considered normal therefore becomes important.

Normalized working capital is often determined based on the company's historical working capital, such as the average over the last 12 months. Other reference periods may also be used, and consideration often needs to be given to factors such as seasonal variations, growth, changes in operations, and extraordinary items.

From the seller's perspective, it is generally positive if the business can be operated with as little capital tied up as possible. A lower sustainable need for working capital means that more capital can be freed up into cash, while the normalized working capital level can also be lower.

However, this does not mean that working capital should be squeezed at any cost. The goal is to reduce unnecessary capital tie-up without impairing the business.

Since normalized working capital is often based on historical levels, it is also important to start working on these issues well in advance of a sale. Improvements implemented only shortly before closing typically have only a limited effect on the history used to determine the normalized working capital.

How can a seller reduce normalized working capital?

There are several ways to reduce capital tie-up and thereby contribute to a lower normalized working capital over time. Below, we go through some common examples.

Reduce capital tie-up in accounts receivable

A common area where companies can free up capital is accounts receivable.

If customers, for example, typically pay after 60 days even though contracts specify 30 days, more capital than necessary is tied up in the business. Accounts receivable then become larger in every monthly closing, which in turn can contribute to a higher normalized working capital.

Measures can include:

• invoicing more quickly after work is performed or delivery is made
• following up on overdue accounts receivable more systematically
• shortening payment terms where commercially feasible
• introducing advance payments or partial payments where the business model allows

If the improvement is lasting, it can both free up cash and reduce the company's normal working capital requirements.

This is an important distinction from simply trying to collect an unusually high amount of accounts receivable just before closing. Such a temporary effect is normally captured in the working capital adjustment and therefore does not need to increase the final purchase price.

Optimize inventory levels

In businesses with inventory, large amounts can be tied up in goods that do not need to be held to the same extent.

For example, there may be opportunities to:

• reduce safety stock
• improve purchasing planning
• identify and reduce slow-moving inventory
• reduce the number of items or product variants
• negotiate shorter lead times with suppliers

A company that can conduct the same operations with, for example, 8 MSEK in inventory instead of 12 MSEK can free up 4 MSEK in capital.

If the lower inventory level is sustainable without negatively affecting sales, delivery capacity, or customer service, this can both increase net cash and contribute to a lower normalized working capital.

If the lower inventory level is established as the new normal well in advance of a sale, the 4 MSEK freed up in this simplified example can contribute to a higher net cash position and thus a higher value for the owners.

Improve payment terms from suppliers

Just as shorter customer credit terms can reduce capital tied up, longer payment terms from suppliers can improve working capital.

If a company historically pays its suppliers within 15 days, even though market terms are 30 or 45 days, there may be an opportunity to renegotiate those terms.

However, it is important to distinguish between negotiating better structural payment terms and simply delaying payments ahead of a sale.

The former can create a lasting reduction in working capital requirements. The latter will typically be reflected in the closing balance sheet and may lead to a corresponding negative adjustment to the purchase price.

Maximize net cash, but do it the right way

Since net cash typically increases the value accruing to shareholders, it is natural to want to build as much cash as possible before a sale.

But it is important to distinguish between genuinely created net cash and cash that has merely been temporarily shifted from other parts of the balance sheet.

If a company, for example:

• improves invoicing and collection routines
• optimizes inventory levels
• negotiates better supplier terms
• generates stronger operating cash flows

the cash can increase in a structural and sustainable way. If, however, the company increases cash by temporarily delaying supplier payments or depleting inventory before closing, this will typically be reflected in lower working capital.

The higher cash balance may increase the purchase price, but the effect is simultaneously offset by a negative working capital adjustment. In practice, this means that no additional value is created by simply moving capital between different balance sheet items ahead of closing.

Review debt and debt-like items

Interest-bearing debt typically reduces the value accruing to shareholders. However, paying down debt with existing cash does not in itself increase equity value. If a company, for example, uses 5 MSEK in cash to pay down 5 MSEK in debt, both cash and debt decrease by the same amount, and net debt remains unchanged.

Ahead of a sale, however, it can be valuable to review and simplify the company's financing structure, for example by:

• settling shareholder loans
• terminating financing arrangements that are no longer needed
• identifying and managing other finance-related liabilities
• documenting items whose treatment might otherwise become a subject of discussion

A cleaner balance sheet can reduce uncertainty and the risk of disputes regarding which items should be treated as net debt.

Identify debt-like items well in advance

In a corporate transaction, net debt can include significantly more than just bank loans. Depending on the transaction, the following items, for example, may be considered debt-like:

• shareholder loans
• accrued interest
• certain tax liabilities
• certain pension obligations
• financial lease liabilities
• overdue accounts payable
• other obligations relating to the period prior to closing

There is rarely a definitive answer as to how all items should be treated. Classification often becomes a matter of negotiation between the buyer and the seller.

By identifying potentially controversial items early on, there is an opportunity to settle, document, or structure them before the sales process begins.

Certain asset items can also be subject to discussion. Restricted bank funds or rental deposits, for example, may be excluded from net cash if the buyer determines that the funds are not freely available. The seller should therefore review in good time whether deposits or other restricted funds can be released, where commercially and contractually possible, without creating corresponding new obligations.

If the funds become freely available, they can be treated to a greater extent as cash or cash equivalents in the net debt calculation, thereby contributing to a higher equity value.

Review excess liquidity and non-core assets

There may also be assets within the company that are not required for day-to-day operations. Examples include:

• excess liquidity
• financial investments
• receivables from owners or related parties
• real estate
• other non-core assets

Before a sale, you should analyze how these assets are best managed.

In some cases, they can be included in the transaction and credited to the seller. In other cases, it may be more appropriate to separate or distribute them prior to the sale.

The best solution depends on factors such as the transaction structure, tax implications, and the buyer's preferences.

Start optimizing working capital well in advance of a sale

This is one of the most important points in this article. As mentioned above, normalized working capital is often determined based on the company's historical levels, such as the average working capital over the past 12 months.

This means that an improvement made just before a sale will have only a limited impact on the historical average.

For example, assume a company normally has SEK 10 million in working capital and manages to reduce this to SEK 7 million three months before a sale. If the normalized working capital is based on a 12-month average, nine of those twelve months will still reflect the previous, higher level.

If the same improvement is instead implemented 12 to 18 months before the sale, it will have a significantly greater impact on the history that forms the basis for negotiations regarding normalized working capital.

An owner who wants to reduce the company's capital tied up and ensure the full impact of improvements is realized in a future sale should therefore start working on these issues long before the transaction process itself begins.

A simple example

Assume that two companies are identical from an operational perspective and both are valued at an enterprise value of SEK 50 million.

Company A has:

• net cash: SEK 2 million
• normalized working capital: SEK 8 million

Company B has, through long-term work with invoicing, inventory, and supplier terms:

• net cash: SEK 6 million
• normalized working capital: SEK 4 million

Company B has thus succeeded in freeing up SEK 4 million from its ongoing operations and converting that capital into cash without impairing the underlying business.

If the lower level of working capital has been established as the company's normal level, it means the buyer does not need to be left with the same capital commitment as in Company A.

Even though both companies have the same enterprise value, Company B can therefore have a higher equity value, as a larger portion of the capital has been freed up into net cash.

Start preparations early

Maximizing the purchase price is not about making short-term changes to the balance sheet just before closing. The most effective measures are instead those that make the business more capital-efficient in the long term: lower inventory levels, faster invoicing and customer payments, better supplier terms, and well-considered management of debt-like and other balance sheet items.

Since many of these improvements need to be established over time, the work should ideally begin long before a sales process is initiated. The goal is not to change the numbers in the short term for a transaction, but to identify sustainable measures that free up capital and maximize the value that ultimately accrues to the owners.

FLB Partners is therefore happy to get involved well in advance of a planned company sale to work with the owners to analyze the company's balance sheet, working capital, and other factors that affect the bridge between enterprise value and the final purchase price.