By Scott Bushkie

Bad numbers. That’s the challenge we’re tackling on three different client engagements right now. In each case, these businesses have a lot going for them. From market leadership, to innovation, to high-quality products, these organizations check a lot of the proverbial “quality business” boxes.

The problem is that their financial reporting is either confusing, not well understood by the owner, or consistently several months behind. There’s nothing dishonest or wrong going on, it’s just that the numbers are messy. And in 18 years of experience, I can tell you that messy numbers are the quickest way to kill a deal.

If your business has sales of $10 million or more, I recommend you have your financials audited for three years before you go to market. (Even smaller businesses may find that an audit makes sense.)

Yes, you will spend more on audited statements, but consider it an investment rather than an additional cost. With well-organized financials, audited by a respected firm, you will have a much better chance of selling your company at a higher value.

If you’re worried about the cost of an audit hurting your value, don’t. We can recast your financials so the cost of audits is viewed as a nonrecurring expense of preparing for a sale. What’s more, I’ve had corporate buyers and private equity groups alike tell me they offer more for businesses with audited numbers.

With audited financials, you lower the buyer’s risk, both in the short and long-term. Analyzing a business opportunity and going through due diligence is a time-consuming endeavor with direct financial and opportunity costs for the buyer. Some buyers won’t even take on the up-front risk of evaluating a business with messy accounting.

By way of example, here’s the situation one of our clients is in. As a capital equipment manufacturer, this company builds multi-million dollar pieces of equipment that can take months to build.

Let’s say they make a large sale which is going to take 24 weeks to produce, from contract to delivery. Right now their first progress payment (maybe 50 percent of job), falls right to the bottom line, with no expenses attached. But eventually, as work continues, the margins even out.

This payment structure is great for cash flow, but confusing to a buyer. There’s less credibility in the numbers. At any given time, the seller might estimate monthly EBITDA at plus or minus $500,000.

So what we’re recommending is that this client bring on a part-time CFO to standardize the accounting for progress payments. That hard work of cleaning up the books is going to get done sooner or later, either proactively by the seller or by the buyer in due diligence.

But waiting for the buyer to do the heavy lifting is risky. If the seller moves forward with his current accounting methods, he might find that the initial offer is dramatically different than the final purchase price. And, as I said before, some buyers won’t even put in an offer, waiting for opportunities with cleaner numbers and less risk.

Imagine, hypothetically, if estimates of value are based on an EBITDA of $1.9 million, instead of a standardized progress-payment EBITDA of $1.6 million. At a five multiple, that $300,000 difference amounts to a $1.5 million decrease in purchase price.

Psychologically for the seller, that’s not a fun exercise to go through right before you reach the closing table. A change like that can have big implications in terms of the seller’s retirement goals, deal structure, and more. Better to have clear information up front.

The moral of the story: be proactive. Have your financials audited or bring in a part-time expert to clean up your accounting and get the numbers as solid and accurate as possible. Studies have shown that the more specific you are with your numbers, the more trust you establish, and the better your negotiating position.

Go into a sale with a “general picture” of what’s going on in your books, and expect some pain (and maybe even a little heartache) in due diligence. The buyer is going to want a clear understanding of the financial picture and future trends of the business before they commit to a deal. And if they can’t get a clear picture, you’ll pay for what they see as significant, additional risk if a deal gets done at all.

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A thought-leader in the industry, Scott developed the Cornerstone Process to offer investment banking M&A-level services to the lower middle market. The result is a closing ratio that’s more than double the national average.