Quality of Earnings Analysis

THE INDISPENSABLE REPORT FOR BUYERS, SELLERS, & LENDERS:

A Quality of Earnings (QoE) report provides critical information about a company’s financial performance delivering insight into its ability to generate cash flow now and into the future.

The Benefits:

  • For Sellers: Addresses any potential cash flow or value-related issues ahead of time to support the offering price before the buyer begins due diligence. 
  • For Buyers: Offers an in-depth review of a potential target’s value through supporting documentation and analysis to determine the quality of the acquisition and return on investment.
  • For Lenders: Assures underwriters of SBA 7(a) and USDA loans that cash flow has been verified to reflect a company’s true ongoing earnings and its cash flow potential.

3 QUALITY OF EARNINGS REPORTS

SUMMARY

  • Executive Summary
  • Key Deal Issues
  • Quality of Earnings
  • Working Capital

COMPREHENSIVE

  • Executive Summary
  • Key Deal Issues
  • Quality of Earnings
  • Working Capital
  • Projections
  • Income Statement
  • Balance Sheet Schedules
  • Trend analysis of COGS, Operating Expenses, Owner’s Compensation, and Customer/Product Analysis

CUSTOM

Customized analysis for clients with complex and specific engagements.

Order Your Quality of Earnings Analysis Here

“The objective of the QoE analysis is to assure our clients have greater visibility into the quality of a company’s financial statements and the run rate of cash flow on a go-forward basis.”

Jason Pagan, CPA

What is Quality of Earnings Analysis and Why is it Essential?

Quality of Earnings analysis is a critical component of the change of ownership (buy/sell transaction) process for privately held businesses, especially for lenders. It involves assessing the existing normalized cash flow stream of the subject company (usually EBITDA) and the sustainability and reliability of that cash flow stream over a specific period. Essentially, it examines the consistency and accuracy of the income generated by the business.

A Quality of Earnings analysis helps stakeholders understand the true financial health of a business by identifying any irregularities, anomalies, or one-time events that may skew the earnings picture. By evaluating the Quality of Earnings, small business owners, prospective buyers, and their lenders can make informed decisions regarding investment, financing, or acquisition.

Impact of Quality of Earnings Analysis on Business Valuation Outcomes:

A business valuation is also a critical tool used as part of the change of ownership process. Because the business valuation conclusion relies heavily on the strength and accuracy of the financial data being used in the analysis, a Quality of Earnings Report being used in conjunction with a business valuation can significantly influence the outcome of the value conclusion. If the earnings are deemed to be of high quality, meaning they are consistent, sustainable, and accurately reflect the business’s performance, it can lead to a higher valuation. Conversely, if there are concerns regarding the quality of earnings, such as fluctuations, unreliable sources of income, or hidden liabilities, it can result in a lower valuation.

Moreover, a thorough Quality of Earnings analysis can uncover opportunities for improving business operations and profitability. By identifying areas of weakness or inefficiency, small business owners can take corrective actions to enhance earnings quality and ultimately increase the value of their company.

Tips for Conducting a Thorough Quality of Earnings Analysis:

a. Review Financial Statements: Start by examining the company’s income statements, balance sheets, and cash flow statements, for multiple periods. Look for trends, inconsistencies, or unusual transactions.

b. Assess Revenue Recognition: Evaluate how revenue is recognized and ensure it aligns with accounting standards. Verify the legitimacy of revenue sources and assess the predictability of future cash flows.

c. Analyze Expense Patterns: Scrutinize the company’s expenses to identify any irregularities or non-recurring costs. Assess the sustainability of expense levels and consider potential cost-saving measures.

d. Evaluate Working Capital Management: Assess the efficiency of working capital management, including inventory turnover, accounts receivable, and accounts payable. Evaluate liquidity and cash flow adequacy.

e. Consider Industry and Market Trends: Understand the broader industry and market dynamics that may impact the company’s earnings. Evaluate competitive positioning, market demand, and potential regulatory changes.

f. Seek Professional Assistance: Engage qualified professionals to conduct a comprehensive Quality of Earnings analysis. Their expertise can provide valuable insights and ensure the analysis is thorough and objective.

By following these tips, small business owners, prospective buyers, and their lenders can gain a deeper understanding of a company’s financial performance and make informed decisions with confidence.

Keep learning:

GCF’s Business Valuation Accreditations

Your GCF Business Valuation appraisal team has one or more of the following business valuation accreditations:

  • Business Appraisal Accredited Senior Appraiser (ASA) – is recognized as having achieved the highest level of education, training, and report writing for business valuations. The ASA designation is the gold standard for a business valuation professional. (source: American Society of Appraisers)
  • Certified Valuation Analyst Certified Valuation Analyst (CVA)
  • AICPA LogoAccredited in Business Valuation by the American Institute of CPAs (ABV by AICPA) – a credential granted exclusively by the AICPA to qualified valuation professionals who demonstrate expertise in valuation through knowledge, skill, experience, and adherence to professional standards. (source: American Institute of CPAs)
  • Accredited in Business Valuation (ABV) – credential is granted exclusively by the AICPA to CPAs and qualified valuation professionals who demonstrate considerable expertise in valuation through their knowledge, skill, experience, and adherence to professional standards. (source: American Institute of CPAs)
  • Certified Public Accountant (CPA)

Over 25 years of experience and expertise in business valuations and appraisals.  An accredited appraiser receives extensive training, remains in good standing, and follows specific industry practices to determine the value of a business.

GCF’s Machinery and Equipment Appraisal Accreditations

  • EECA logoExpert Equipment Certified Appraiser (EECA) – Our appraisers are recognized with a deep understanding of valuation principles and extensive experience by the Institute of Equipment Valuation.
  • Certified Machinery and Equipment Appraiser (CMEA) – a CMEA professional has the expertise and certification to conduct a third party machinery and equipment appraisal.

The GCF Business Valuation Process

GCF Business Valuation Process