Understanding Quality of Earnings When Selling a Business

Whether you know it or not, you have been preparing for a sale for years. And a key component of that preparation is a quality of earnings report. This report is invaluable for business owners during a sale because it provides a clear picture of the company's true earning power — stripped of any one-time gains, accounting anomalies, or non-recurring income.

Here's why it's so impactful.

What a QofE Report Evaluates

A Quality of Earnings (QofE) report is a comprehensive analysis of a company’s financial health. It analyzes precisely how your business accumulates revenue. Unlike a traditional audit, which focuses on compliance with accounting standards, a QofE digs deeper into the sustainability and reliability of earnings.

The quality of earnings report highlights the key aspects of your business, including:

Normalized level of EBITDA and the addbacks to bridge from reported EBITDA to adjusted EBITDA
Fluctuations in annual and monthly financial information
Revenue and gross margin by product, customer, or distribution segments
Operating expenses and employee analysis
Key balance sheet highlights
Normalized levels of working capital needed to operate the business

It also enables leadership to consider:

Have we had any significant one-time events, infused significant growth, or added process improvement capital that affected our financial performance?
Have we prudently managed our working capital and cash flow?
Do we have discretionary expenses affecting EBITDA?
Do we have any personal expenses running through the business?
Are all related party transactions at arm’s length?
How do our compensation packages compare to the market?
Have we reasonably forecasted our growth?
Have we outgrown our current technologies?
What is the outlook for our organization?

Although primarily focused on financials, the QofE report may also explore your IT landscape, finance team composition, accounting processes, and other operational details to assess the overall quality and reliability of financial data.

Benefits of a Sell-Side QofE Report

Conducting a sell-side QofE helps you:

Gain insight into how buyers will assess your earnings and key financial areas.
Demonstrate to potential buyers that you’re committed to selling and have taken steps to prepare your company for a sale.
Address and resolve past financial issues to potentially enhance your company’s value.
Ensure all necessary add-backs and adjustments are properly documented.
Tackle challenging questions and concerns before buyer discussions begin.
Prepare documents in advance, reducing pressure on your team during the sale process.

Depending on the results, waiting to sell for another year after the QofE is completed could return significant value, as management would have time to focus on improving key performance indicators and value drivers.

The Quality of Earnings Process

The process for a QofE report begins when you are considering selling your company or a segment of your company. Most sellers engage a QofE advisor six to 12 months before going to market, giving leadership time to act on the findings before buyers begin diligence.

After you’ve selected a third-party advisor to conduct the QofE report, you can expect the following:

Introductory Consultation

The initial meeting is designed to discuss the objectives of the engagement, provide an overview of your business operations, and share key financial information.

Information Gathering

The QofE team will gather all relevant data from your business, including financial statements, tax returns, and customer contracts.

It’s essential to appoint a key individual within your organization to communicate with the QofE team throughout the engagement. This person will assist with data requests and ensure confidentiality throughout the process.

Initial Analysis

The QofE advisors will begin analyzing the collected data to identify key areas of focus. Preliminary findings, questions, or clarifications will be communicated to your internal team.

Deep Dive Analysis

Upon collecting all necessary data and clarifying goals, the QofE team will conduct a detailed analysis of your financial data to assess the quality of your earnings. This stage includes:

A thorough examination of revenue, expenses, and key financial metrics.
Identification of one-time items, unusual trends, or adjustments.
Requests for additional data or explanations as needed.

Discussion of Findings

An initial QofE report will outline the findings of the engagement, including any adjustments or key issues. A meeting will be scheduled with your advisors to discuss the report, gather your feedback, and address any questions.

Final Report

After incorporating your feedback and clarifications, the advisors will finalize the report.

Follow Up

Based on the engagement results and your organizational goals, the QofE advisors may provide ongoing support or schedule a follow-up review once adjustments and improvements have been implemented.

As the QofE process proceeds, stay involved. This allows you to better understand not only the due diligence process but also deal options, value points, and the final deliverable.

Moving Toward a More Valuable Exit

Whether you’re actively working toward a transaction or simply planning for the future, a QofE gives you the information you need to navigate the process strategically.

Our M&A advisors can help you prioritize improvements, reduce surprises, and prepare for a smoother, more valuable exit — on your terms.

Frequently Asked Questions

What is a quality of earnings report?

A QofE report is a detailed analysis of a company’s true earnings, adjusted for one-time events, accounting anomalies, and non-recurring income, giving buyers and sellers an accurate picture of sustainable financial performance. It digs deeper into the financial data than a traditional audit, looking at the sustainability and reliability of your earnings — not just compliance with accounting standards.

How does a QofE help you sell your business?

A sell-side QofE gives you bargaining power. It shows buyers you’re prepared, identifies issues early, and documents add-backs that increase adjusted EBITDA. In some cases, waiting a year to go to market after completing a sell-side QofE can add significant value by showing improvements in key metrics.

When should a business complete a QofE report?

Six to twelve months before going to market is ideal, giving owners time to address issues, optimize performance, and strengthen value drivers before buyers begin their evaluations.

How long does a QofE process take?

Most QofE engagements take 4–6 weeks from engagement to draft report, depending on the complexity of your business, availability of documentation, and depth of analysis required.

What documents are required for a QofE?

Typical requests include financial statements, general ledger data, tax returns, customer contracts, AR/AP reports, payroll records, revenue schedules, and other operational documentation needed to validate earnings.

How does a QofE impact valuation?

A QofE strengthens your valuation by identifying add backs, validating EBITDA, highlighting growth drivers, and resolving issues before negotiations begin.

What happens if the QofE uncovers issues?

Most findings can be corrected or improved before a sale. Addressing issues in advance can strengthen your valuation, reduce buyer pushback, and create a smoother due diligence process.

What if I'm not planning to sell soon?

A QofE can still be valuable for operational improvement, succession planning, financing, or early stage exit readiness. Many owners use a QofE 18–36 months before a potential transaction to identify weak spots in working capital management, customer concentration, or revenue quality — giving them time to address findings and grow into a higher multiple.