Use Case
Quality of Earnings for Self-Funded Searchers and ETA Buyers
If you are buying your first business through a search, the quality of earnings analysis is doing something different from what it does for a private equity buyer. You are not adding a company to a portfolio. You are about to run it, usually while servicing acquisition debt out of its cash flow.
That changes which parts of the analysis matter most. The headline earnings figure is rarely the part that decides whether the deal works for you.
Who this is for
An operator buying one business to run themselves, funded by personal capital and a bank or acquisition loan. If you are a fund acquiring a platform with a management team already in place, some of this still applies, but the debt-service point below will not land the same way.
The number you are buying is not the number you will live on
An earnings figure needs to be translated into the buyer’s expected cash position. Two items require explicit treatment.
Your own compensation. Check whether the presented earnings already include an ongoing management cost. SDE and different adjusted EBITDA presentations can treat owner compensation differently. Budget for the work that must continue without deducting the same replacement cost twice. See seller’s discretionary earnings for the owner-role distinction.
Debt service. An acquisition loan is repaid out of the same cash flow the analysis describes, and EBITDA is calculated before interest by definition.
An earnings figure can be entirely accurate and still leave a thin margin once both are budgeted. We build the picture so those costs can be laid against it, rather than leaving them implied.
Why a forward view, not just a historical one
For an owner-operated business, the reported history is often a poor guide to what you will inherit.
Costs may reflect arrangements the buyer will not inherit. In our work, we review operating-cost assumptions rather than accept a summary without support. Our transaction discussions include insurance, bank charges, accounting and commissions as items to check. This is a review list, not a claim about how often those costs are missing.
Two practical consequences:
Compare the trailing twelve months with the fiscal-year history.
A more recent period can reveal a change in direction, while seasonality and data quality still need consideration.
Build a separate forward view where costs will change.
Keep its assumptions visible alongside tested historical results. A projection is not a verified outcome.
Revenue gets rebuilt customer by customer
A total revenue figure can conceal changes in customer mix. A customer-level review gives the buyer a more specific set of questions.
A monthly revenue figure supplied by a seller is a total. It does not tell you which customers produce it, which have already gone, or which are about to. We rebuild revenue against the general ledger for the period and match it to the customer list, which makes three things visible:
| What the rebuild shows | Why it matters to an operator |
|---|---|
| Which named customers are actually generating revenue in the current period | Confirms the revenue base exists rather than taking a summary on trust |
| Which customers present in prior years have since stopped | Churn already in the numbers, which a trailing average can hide |
| How concentrated the remaining revenue is | One departure can move the business materially after you own it |
| Which customers have begun contributing revenue | Distinguishes recorded new-customer revenue from assumptions about future sales |
A declining trend line matters more than a healthy average. Where several sizeable customers have left over a two or three year window and nothing of similar size has replaced them, the business you are buying is not the business the historical average describes.
Payroll is checked against more than one source
Headcount information supplied during a deal does not always agree between the schedule, the accounting records and what the seller describes. Where it does not, the payroll cost in a forward view is unreliable, and payroll is usually one of the largest lines. We reconcile it rather than take a single source.
What to line up before you engage anyone
- The general ledger for the periods under review, not just financial statements
- A customer list that can be matched against revenue, with prior years included
- Payroll records and current headcount
- The lease you will actually sign, and an insurance quote in your own name
- Your financing terms, so debt service can be laid against the earnings picture
Confirm which items are available and who will obtain the rest. See EBITDA for why rent and insurance may need reassessment where the buyer’s arrangements differ from the seller’s.
Frequently asked questions
What is different about a QoE for a search acquisition?
The buyer is usually the incoming operator and is often servicing acquisition debt. The analysis puts more weight on the forward cost base, on customer churn and concentration, and on making the earnings figure usable once your salary and debt service are budgeted against it.
Should I get a quality of earnings analysis on a small acquisition?
That depends on the business and on what your lender requires, and it is a scoping conversation rather than a rule. The more the business depends on a small number of customers, or the less reliable its records look, the more a buyer tends to want the revenue rebuilt rather than summarised.
Does the analysis tell me whether I can service the loan?
Not on its own. Consider the findings, limitations and unresolved items alongside financing terms, compensation, capital spending and working capital needs. Your lender will run its own assessment. A diligence report does not guarantee repayment capacity.
What should a first-time buyer examine beyond the total?
Our review questions include customer churn behind the revenue total and operating costs that may change under new ownership. Investigate both while information can still inform the purchase decision. No frequency or savings claim is implied.
Can you work with my lender’s requirements?
We will discuss what the lender expects as part of scoping. We do not represent that any particular deliverable is accepted by any particular lender, because that is the lender’s decision and requirements differ.
Does Treewalk audit the business I am buying?
No. Treewalk does not provide audit or assurance services. A quality of earnings analysis is an advisory engagement and its output is not an audit opinion.
Where to next
Read the quality of earnings report entry for what the analysis contains, and the questions to ask any QoE provider before you engage one. For the earnings figure itself, see EBITDA and seller’s discretionary earnings.
When you have a target under LOI, contact our transaction advisory team.
Treewalk, Chartered Professional Accountants, provides advisory services.
