Most firms/buyers obtain a Quality of Earnings report/process to confirm their valuation and support a certain debt level utilized for the acquisition. While these uses are obviously critical, the diligence process should also be leveraged to assist with the buyer’s post-acquisition plan (many of our clients refer to it as the 90-day plan). The below represents just a few examples of items assessed during diligence that may impact your short-term post acquisition plan.
Accounting/reporting function: Chances are your diligence provider will work directly with the Company CFO/Controller and other aspects of the accounting function during the Quality of Earnings process. The provider can provide insight on strengths/weaknesses of this function and potential adjustments that need to be made post acquisition. In addition, lower middle market companies typically have relatively simple financial reporting capabilities that a new institutional buyer will want to upgrade post acquisition. Knowledge gained during diligence will help you prepare for these changes and be ready at close to take positive action.
Systems: Through diligence, your provider should have a relatively good idea on the quality of systems and the information available from these systems. Do you have the correct systems in place? If so, do you have the correct technical resources to maintain those systems and to extract/organize the available information/data? Understanding the systems utilized and their capabilities goes a long way in determining and planning for necessary future system investments.
Personnel: During diligence, we always prepare a payroll reconciliation and a schedule of payroll amounts by individual employee by year/period. This analysis can be used to determine if there are any open roles and to assess the appropriateness of the Company’s headcount and individual compensation levels.
Customer/Vendors: Were there any customer/vendor issues identified during diligence that may need to be addressed immediately post acquisition? Findings may include identification of recent vendor price increases necessitating a change post acquisition. There are concentration and many other items uncovered during diligence that can assist with relationship management and plans post-transaction.
Forecasting/Budgeting: In many cases, the target may have prepared a future forecast as part of its sales pitch (we all know how aggressive these can be!). Additionally, as the investor/acquiror, you may have prepared your own forecast to support your valuation and anticipated return. Many items should be gleaned from the diligence report that can corroborate or dispute/change the assumptions utilized in the target forecast and/or your investment model.
When reviewing the Quality of Earnings report do not just focus on the past results analyzed in the report. There is typically a plethora of information that will assist you in developing and refining your future plans for your investment.
ABOUT THE AUTHOR – CHRIS FAMEREE, MANAGING PARTNER
Chris Fameree is the founding partner of Assure with nearly 15 years of combined public accounting and industry experience. He has led and participated in numerous engagements including SOC 1 & SOC 2 engagements, due diligence engagements, financial statement audits and other advisory projects.
Prior to founding Assure, Chris was a Senior Manager in the Transaction Advisory Services Group and Audit Group of a large regional CPA firm. During this time, Chris participated in numerous business combinations and due diligence assignments. These transactions ranged from $10 million to over $100 million in value. Chris also worked at a national CPA firm, where he served lead roles on engagements from international Fortune 500 companies to closely held private manufacturers.
Chris received his Bachelor of Business Administration in Accounting from the University of Wisconsin. He is licensed as a Certified Public Accountant in North Carolina and Wisconsin.