Working Capital

What Is Working Capital?

Working capital (known in Spanish as capital circulante or fondo de maniobra) is one of the most fundamental concepts in corporate finance and operational management. At its simplest:

Working Capital = Current Assets – Current Liabilities

Current assets (activo corriente) are assets expected to be converted to cash or consumed within 12 months: cash, trade receivables, inventories, and prepayments.

Current liabilities (pasivo corriente) are obligations due within 12 months: trade payables, accrued expenses, short-term debt, and tax payables.

Positive working capital means the company’s short-term assets exceed its short-term liabilities — it has a buffer to meet near-term obligations. Negative working capital is not always a problem (supermarkets operate with negative working capital by design) but for most businesses indicates potential liquidity risk.

Components of Working Capital

Trade Receivables (Deudores Comerciales)

Amounts owed by customers for goods or services delivered but not yet paid. The longer the collection period (días de cobro or Days Sales Outstanding — DSO), the more cash is tied up in receivables. DSO varies significantly by industry and by the payment culture of the sector:

• Spanish public sector: frequently 60–120 days (despite legal limits)
• Large retail customers: 60–90 days
• B2C businesses: near-zero (payment at point of sale)

Inventories (Existencias)

Stock of raw materials, work-in-progress, and finished goods. Inventory levels must balance operational needs (avoiding stockouts) against cash efficiency (avoiding excess stock). Inventory Days (Days Inventory Outstanding — DIO) measures how many days of sales are held in stock.

Trade Payables (Acreedores Comerciales)

Amounts owed to suppliers for purchases made on credit. Extending payment terms (Days Payable Outstanding — DPO) improves working capital, but Spain’s Law 15/2010 limits commercial payment terms to 60 days. Late payment is endemic in Spain despite the legal limits, particularly in construction and public works sectors.

Cash (Tesorería)

Cash on hand and short-term bank deposits. Whether cash is included in working capital depends on the context and the definition agreed in an M&A transaction (cash is typically excluded from the working capital definition and treated as a separate line in the net debt/cash adjustment).

The Cash Conversion Cycle

The cash conversion cycle (CCC) measures how long cash is tied up in the operating cycle:

CCC = DSO + DIO – DPO

A shorter CCC means cash is recycled more quickly. Negative CCC (collect before paying) is a source of free cash flow. A long CCC requires external financing (credit lines, factoring) to bridge the gap.

Working Capital in M&A Transactions

Working capital is one of the most heavily negotiated and disputed elements of Spanish M&A transactions. The central issue is: what level of working capital should be in the business at closing?

The Working Capital Peg (Nivel Normalizado de Capital Circulante)

In a completion accounts transaction, the buyer and seller agree a “peg” — the normalised level of working capital the business needs to operate on a day-to-day basis. This is typically derived from the trailing 12 months’ average working capital (excluding exceptional items).

At closing, actual working capital is calculated:

• If above the peg: the seller receives a price uplift (the excess represents additional value delivered)
• If below the peg: the buyer receives a price reduction (the shortfall represents a working capital deficit the buyer must fund)

Why Working Capital Disputes Are Common

Working capital disputes are among the most frequent post-closing M&A disputes in Spain. Sources of dispute include:

• Definition ambiguity: Exactly which balance sheet items are included or excluded (e.g., is accrued tax included? Is the current portion of long-term debt included?)
• Seasonality: A seasonal business measured at an atypical point in the year will show working capital above or below the annual average
• Revenue recognition timing: Whether a receivable is included depends on when revenue is recognised (accrual-based vs cash-based accounting)
• Pre-closing manipulation: Sellers accelerating collections or delaying payments in the days before closing to inflate working capital

Seller vs Buyer Perspectives

• Sellers want a low peg (leaving excess working capital in the business that they can extract as additional proceeds)
• Buyers want an accurate peg that ensures the business is delivered with sufficient operational liquidity

The working capital definition — including specific line items, accounting policies, and calculation methodology — should be explicitly defined in the SPA and subject to an agreed dispute resolution mechanism (typically expert determination).

Working Capital Optimisation

For businesses seeking to improve cash flow, working capital optimisation is often the fastest route:

Receivables Management

• Tighten credit terms for new customers
• Implement systematic collection follow-up (gestión de cobros)
• Use factoring or reverse factoring (confirming) facilities
• Apply interest on late payments as permitted by commercial law

Payables Management

• Negotiate extended supplier terms within legal limits
• Use supply chain financing (reverse factoring/confirming) to extend effective payment terms while offering suppliers early payment
• Centralise purchase approval to prevent unauthorised orders

Inventory Management

• Implement demand forecasting and just-in-time ordering
• Identify and liquidate slow-moving stock (obsolescencia)
• Review safety stock levels against actual lead times and demand variability

Working Capital Ratios

Key liquidity ratios derived from working capital data:

Frequently Asked Questions

What is the difference between working capital and liquidity? Working capital is a balance sheet measure (static snapshot). Liquidity refers to the company’s ability to meet its payment obligations as they fall due (dynamic concept). A company can have positive working capital but poor liquidity if its current assets are concentrated in slow-moving inventory or long-dated receivables.

Why is working capital excluded from EBITDA? EBITDA measures operating profitability on an accrual basis, while working capital measures the cash tied up in the operating cycle. Changes in working capital are what reconcile operating profit to operating cash flow — they are different but complementary analyses.

Can working capital be negative in a healthy business? Yes. Businesses that collect before they deliver (subscriptions, e-commerce, travel) or negotiate longer payment terms than credit terms (supermarkets, large retailers) operate with structural negative working capital. This is a source of cash, not a problem.

What is the difference between gross and net working capital? Gross working capital = total current assets. Net working capital = current assets minus current liabilities. “Working capital” in M&A contexts typically refers to net working capital, but the specific definition must be agreed in the SPA.

How does seasonality affect working capital management? Seasonal businesses (tourism, agriculture, retail) experience significant intra-year swings in working capital. Banks typically provide seasonal revolving credit lines (pólizas de crédito) to bridge working capital peaks. In M&A, seasonality requires that the working capital peg be calculated over a full annual cycle, not a single point-in-time measurement.

How BMC Can Help

We support clients in working capital analysis for M&A transactions (peg calculation, dispute resolution, completion accounts preparation), working capital improvement projects, and cash flow optimisation programmes for operating businesses.