Hi!

What I actually meant by “operationally” is how NWC impacts cash flow generation, what operators should be wary about about etc. This is especially true with start-up founders that do not necessarily anticipate the impact of NWC on their forecast and future cash needs (thinking about VAT for instance).

NWC in the context of a Transaction would be explaining specifically how NWC impacts the price of a business, and make founders understand why NWC is not simply added to the price paid to them like Net Cash is.

Short answer about treatment of NWC : define what the average normalized NWC of the company should be and adjust the difference with actual NWC at time of transaction. In the case you describe, if the company has received a huge prepayment, then net cash has increased, but it should be balanced by the Prepayment account which increases the NWC at close, so the increase in net cash is compensated by the NWC price adjustment.

In short, say the enterprise value agreed on is $100m and there is $0m in Net cash, and the multi-year contract was taken into account in that valuation. Say target NWC has been set at $5m (your PEG). Say the company now just received $2m in prepayment related to the big contract. Net cash = +$2m. actual NWC = $7m. So equity value = $100m + $2m (increase in net cash) less $2m (difference between PEG and Actual NWC) = $100m. If seller now tries to extract the cash, and distributes the $2m before the transaction, then at time of transaction you’ll still have Enterprise Value = $100m, Net Cash = $0m and NWC = $7m so price paid to the seller will now be $100m + $0 — $2m = $98m.

It all works from a mechanism perspective. Now what can happens is the Seller asking for an upside for managing to negotiate that prepayment, but this is a different topic :)