Closing during a mid-reporting period

Most acquirers and sellers prefer to close an acquisition at the end of an accounting and payroll period. That way, there’s a clean break as the new owner assumes the operation, a clean slate on the first or the 15th of the month. When that timing works out, the acquirer gets a clean opening balance sheet, and payroll checks or ACHs are sent under the new owner’s name; operations continue with clean books and a fresh start.

But some deals close in the middle of a reporting period, and here is how that timing is handled for the various calculations required at closing, such as cash due to seller, deal proceeds, etc.

In the letter of intent that the acquirer drafts, and the seller and acquirer sign (after negotiating terms), there is a section that says that the NWC (Net Working Capital) “peg” has to be based on a date-certain balance sheet. Readers of this column know that the NWC is the crucial dollar figure that sets out how much money/inventory/AR needs to be left in the company upon sale, very often calculated on a trailing twelve month basis, to account for the seasonality of the LBM sector’s cyclical business cycle.

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Most acquirers say that the balance sheet used in that NWC calculus be the balance sheet available for the month-end nearest to closing. For instance, if the closing is set for May 20—a mid-reporting period date—you obviously can’t use the May balance sheet for the NWC, because the balance sheet is only partial, fractionally offering just 20th-31st of the month. So, the acquirer and seller agree in the LOI to use the April balance sheet, the document completed nearest to/prior to the closing date. The Net Working Capital is calculated on April numbers, and the NWC “peg” is set.

But if you are closing on May 20th, and the Net Working Capital “peg” were set for use at closing at the end of April, there are 20 days of operations that have yet to be accounted for. What if, during that 20-day time period, say, the seller sold down inventory, so inventory levels dipped below the twelve month trailing average? That may result in a receivable moving to cash on the balance sheet … cash that might rightfully belong to the acquirer, and not the seller.

Here’s how that is handled: The day before the closing, say, May 19th, in our example, the seller generates a “spot report” balance sheet, a day-of-close document, admittedly incomplete for the month of May. The figures on that “spot report” balance sheet are examined for, among other things, the cash and cash equivalents that go to the seller in a debt-free/cash-free deal, for how close the seller is to honoring the NWC set with the April balance sheet. Everyone uses this “spot report” balance sheet at close, knowing that it will be revisited and reconciled post-close.

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In the vast majority of deals, there is a true-up, often 90 days post-close, where the final balance sheet (a complete balance sheet prepared by the seller’s CPA or accountant for “May,” in our example) is used. The acquirer and the seller get together to compare notes as they examine (and pro-rate) the figures to account for the 20 days of operation the seller engaged in after the April balance sheet was used going into the closing.

By waiting 90 days post-close for this true-up reconciliation, the seller has a chance to get balance sheets completed; and the true-up allows all parties to look transparently at the date-certain final statements to make sure the at-close data used in the Net Working Capital figure was accurate, to the penny.

Of course, it is preferred that the acquisition close with a clean break on a new reporting period, but a surprising number of deals close outside of that time frame. This causes extra work, sure, and it depends on some good faith from the acquirer and seller that any loose ends will be addressed in the true-up, but a mid-reporting-period close can be accomplished.

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