Buy-Side QoE / Financial Due Diligence

Service description

A buy-side quality of earnings review tests the earnings a seller reports for a business you are thinking of buying. An accounting firm adjusts profit for one-time or unusual items, checks revenue and cash flow against records, and reviews working capital and debt-like items. The result shows what earnings the business can reliably repeat, before you commit to a price.

Common industries

Applies to acquirers in any industry, including private equity firms and operating companies buying a business.

ROI

Catches the earnings and working-capital issues that change price or kill a bad deal; standard practice for serious acquirers.

Benefit

Independent quality-of-earnings and financial diligence on an acquisition target — normalize earnings, test the numbers, flag risks before you sign.

Why get it

Reported earnings drive the price, and a seller's numbers can include one-time gains, owner expenses or aggressive accounting. Independent testing lets the buyer, and often its lender, rely on the numbers before closing.

When you benefit

A one-time engagement during the diligence period of a deal, with follow-up questions until closing.

What it costs

Typically a project fee.

When you pay

Usually a fixed fee or a capped hourly fee, scaled to the size and complexity of the target and the scope requested. A narrow scope costs less than a full review. Extra work after new findings is typically billed separately.

Other costs

Legal, tax and other diligence workstreams, travel for site visits, and management time to answer requests.

Risks to know

A review is only as good as the records the seller provides, and a short timeline limits how much gets tested. Findings that arrive late can force a price renegotiation or end the deal. A report can also miss issues outside its scope, such as legal, tax or technology problems.

When risks arise

Findings surface during diligence, before the deal closes. Issues missed here tend to show up after closing, as earnings that fall short of what was paid for.

The process

The provider requests the seller's financial records and interviews management. It normalizes earnings for unusual items, tests revenue, margins and cash flow against support, and reviews working capital and debt-like items. The buyer receives a written report and uses it to negotiate price and terms.

Your commitment

The buyer defines the scope with the provider and secures the seller's agreement to share records. It should give the provider access to the seller's financial statements, general ledger, tax returns and management, and decide quickly how to act on what is found.

Documents to gather

• Letter of intent or draft purchase agreement
• Seller's financial statements and tax returns for recent years
• Monthly financial statements and a trial balance
• Customer, vendor and payroll summaries

Helpful reading

• What's the Winning Ingredient in M&A? The Answer Lies in Due Diligence — CFA Institute Research and Policy Center
• Do's and don'ts of due diligence — Journal of Accountancy
• What High-Quality Revenue Looks Like — Harvard Business Review