If you are considering a sale, a quality of earnings (QofE) report helps buyers and sellers understand a company’s earnings. It digs into the financials to separate items such as recurring income from one-time events. This report is vital for merger and acquisition (M&A) deals and other major financial decisions.

Not just about the numbers on the surface

While financial statements tell part of the story, a quality earnings report goes deeper. It looks at cash flow, revenue sources, margins, customer concentration, and unusual expenses. The goal is to present a clear, accurate picture of ongoing profitability. It helps buyers avoid surprises, sellers defend their asking price, and reps and warranty liabilities are avoided.

Supporting addbacks to EBITDA and reducing risk

The most crucial metric when selling control of a middle-market private company is the earnings before interest, taxes, depreciation, and amortization (EBITDA). This metric is used to apply a multiple to conclude an asking price. Most seller representative reports start with EBITDA per books and then add items such as:

• Officers Comp
• Officers Perks (Perquisites)
• Personal non-operating expenses, such as travel, meals, vacations, and other costs that are unnecessary for operations
• Non-recurring items

This report often comes up during due diligence. For buyers, it lowers risk and supports financing efforts. For sellers, it shows transparency and builds trust. It also helps resolve questions before they become deal-breakers. When both sides have clarity, negotiations go more smoothly.

Who prepares the quality of earnings report

A quality of earnings report should be prepared by an independent third party, usually a CPA firm with M&A experience. Generally, why not the existing accountants for the seller? It’s different from an audit or a simple financial review. Think of it as a deep dive into what drives the business’s economic health.

Contact me, Len Friedman, if you have any questions or are ready to sell your business today.