Want to sell or get funded? Here’s the first thing you should do.

It’s an exciting time for you and your business. The massive amount of private equity dry powder in the market combined with the trending drive to grow into additional lines of business has created new opportunities for a company to obtain funding or plan an exit. While the vision of a business may bring buyers to your table, the financial performance is what keeps them there. Cleaning up your books can make the difference between missing out on a higher exit price and getting the deal of a lifetime.

The current market provides companies with more opportunities to grow (or exit) than ever before. However, finding a potential buyer for the company is only the beginning. After that comes the cumbersome stuff – the barrage of information requests, diligence reviews, and nonstop negotiations to name a few. One of the areas that’s become a point of contention within a transaction is the seller’s financial performance and reporting. Often, a company’s accounting includes just the basics: invoicing, vendor payments, and payroll. This is a far cry from meeting the Generally Accepted Accounting Principles within the United States (US GAAP) that institutional investors and lenders require. Let’s talk about a few key reasons why you should clean up your books before starting the M&A process.

The majority of the US market requires a company to provide its financial reporting under the accrual-basis method of accounting known as US GAAP, which could be significantly different from your current internal reporting. In fact, more often than not, a company’s accounting capabilities stop at providing cash-basis or tax-basis reports for their tax filings. The US GAAP framework provides accounting guidance for businesses, but it can become very complex to evaluate and interpret depending on a type of business and industry.

Many times, buyers and sellers determine a price, or range of prices, utilizing a certain financial measure of the company’s past and prospective performance, such as Revenues or EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization). An initial price may be based on a certain number that the seller believes is correct based on their previous method of accounting. However, as diligence experts begin to review the company’s books, the amount may change significantly when adjusted to be in accordance with US GAAP. Such a change in the middle of negotiations will inevitably lead to heated debate and lowered confidence in the ability for both parties to agree on what is the “correct” number.

Detailed, consistent, and clear reporting is key

The ability for a company to report its financial performance accurately and consistently is a primary factor for a buyer when gaining an understanding of what is being purchased. A seller who can provide clean financial reporting through strong month-end close processes, holds a bargaining chip that demonstrates the ability to make key business decisions in a timely manner. However, if a seller cannot provide such accurate financial reporting, this significantly reduces the buyer’s confidence. The buyer may anticipate a substantial extra cost just to clean up the books of their new purchase. Worse, this can lead to heated disagreements after the close of the transaction if differences from historical reporting identify potential errors or even fraud, resulting in a lowered purchase price, shifting upfront payments to uncertain earnouts, or requiring the seller to pay the bill for an investigation or review of the financials.

While these factors relate to disadvantages in the numbers, there looms a greater disadvantage on the horizon. Through the process of a pending transaction, the amount of effort required by both parties can be enormous. There will be countless meetings to complete various diligence reviews, procure insurance policies around representations and warranties, obtain regulatory approval, identify tax issues, and more. And, due to the generally confidential nature of potential transactions, most employees within a company cannot be involved in the process, creating a mountain of work for a limited few.

Being aware and prepared can lead to a successful new round of funding, or a lucrative exit for which many investors and owners work so hard. Done poorly, it can be one of the most stressful times for a business. Having a clean set of financial statements can help to ease this difficult time and give everyone more time to focus on higher-impact activities. Engaging a specialist in technical accounting, financial reporting, and transaction readiness for a company’s financial statements can help ensure success while minimizing the amount of stress and pain throughout the process.

Any questions or concerns with your company’s financials prior to a potential sale or funding round? Reach out to our team here.