Quality of Earnings Report

What is a Quality of Earnings Report?

A Quality of Earnings (QoE) report is a detailed financial analysis that goes beyond the numbers on the income statement to assess whether a company's reported earnings are accurate, sustainable, and repeatable. It is the financial equivalent of a home inspection — it reveals what the surface-level numbers might be hiding.

QoE reports are typically commissioned by the buyer during due diligence, but increasingly, sellers are ordering their own reports before going to market. A sell-side QoE can accelerate the deal process and prevent surprises that derail negotiations.

What a QoE Report Analyzes

The accounting firm performing the QoE examines:

• Revenue quality. Is revenue recurring, contractual, or one-time? Are there unusual revenue recognition practices inflating the top line?
• EBITDA adjustments. Are the seller's EBITDA add-backs legitimate and supportable? Common issues include overstated add-backs, personal expenses buried in operating costs, and one-time revenue included in normalized earnings.
• Working capital trends. Is working capital stable, or are there seasonal swings that could affect the purchase price adjustment at closing?
• Customer concentration. What percentage of revenue comes from the top customers, and what is the risk of losing them post-transaction? See customer concentration.
• Expense normalization. Are there above-market or below-market expenses (rent, salaries, related-party transactions) that would change under new ownership?
• Cash vs. accrual discrepancies. Small businesses often blend cash and accrual accounting. The QoE identifies where this creates misleading results.

Why Sellers Should Care

A buyer's QoE report can result in a price reduction or a killed deal if it uncovers problems. The most common findings that hurt sellers:

• Unsupported add-backs. Claiming personal expenses as add-backs without documentation leads to downward adjustments.
• Revenue timing issues. Pulling forward revenue or deferring expenses to inflate a trailing period is easily caught.
• Hidden liabilities. Unpaid taxes, deferred maintenance, or undisclosed legal exposure discovered during the QoE erode trust.

Sell-Side QoE: A Competitive Advantage

Ordering your own QoE report before listing the business offers significant advantages:

• Fix problems early. Address accounting issues, clean up add-backs, and resolve discrepancies before buyers find them.
• Faster due diligence. Buyers and their accountants can rely on the sell-side QoE, shortening the time between LOI and close.
• Stronger negotiating position. A clean QoE report gives buyers confidence, which translates into higher offers and less price renegotiation.

Cost and Timeline

A quality of earnings report typically costs $15,000 to $50,000 for a small to mid-market business and takes two to four weeks to complete. The cost scales with the complexity of the business and the volume of transactions to analyze. For most sellers, the investment pays for itself through a smoother process and a stronger sale price.