When Quality-of-Earnings Reveals Cold, Hard Truths

Bob Boniface and his ETA search partner went searching for a high quality, blue-collar business in the lower middle market, and found ⁠TransTech⁠, a commercial driver's license (CDL) training business in North Carolina. The business had predictable revenue and competed in an essential, growing market. The seller was impressed with the research that Bob and his parter had done into the niche industry.

A letter of intent was issued, followed by a quality of earnings process. That's when the uncomfortable conversations began.

Quality of earnings is an early form of due diligence, the importance and utility of which many first time Entrepreneurs-Through-Acquisition (ETA) do not fully appreciate. Sellers, too, can be apprehensive about the process, because in translating cash accounting into accrual accounting, reported revenue and earnings can drop, often followed by a drop in the proposed transaction value, as well.

In a fascinating conversation with Search Party, four expert practitioners from the lower middle market discuss the criticality of quality of earnings, dispel misperceptions and compare notes on best practices for keeping investors apprised of shifting numbers, as well as preventing the seller from experiencing disappointment and due diligence fatigue. Boniface is joined in the Search Party episode by Anthony Walker of Next Coast Legacy, and Clay Brownlee and Ryan Turbes, both of ⁠Boulay⁠.

Boniface details how quality of earnings revealed lower revenue and earnings than originally estimates. This change didn't kill the deal, but it did require the parties to change the deal structure, as well as require the seller to "cross an emotional rubicon" because the purchase price needed to drop.

The experts also discuss expectations around workload and timeline, as well as how a good quality of earnings process can inform and accelerate the post-acquisition plan for value creation. As Boniface puts it, quality of earnings is "something you should really look forward to."

Search Party Lead Sponsor: Next Coast Legacy ⁠https://lnkd.in/eSAuRW5p⁠

Search Party Sponsors: Avidbank ⁠https://www.avidbank.com/⁠

Boulay ⁠https://boulaygroup.com/⁠

Mayer Brown https://lnkd.in/gU7sPPSg⁠

Plexus Capital ⁠https://plexuscap.com/

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Search Party video-podcast website: ⁠https://lnkd.in/efJEa6GV⁠