Quality of earnings (“QofE”), or financial accounting due diligence by an independent accounting firm, takes a deep dive into a company’s financial and operational data, with a focus on earnings before interest, taxes, depreciation, and amortization (EBITDA). Widely considered a more relevant indicator or enterprise value than net income, EBITDA reflects a business's underlying ability to generate cash flow and removes the impact of capital structure, tax jurisdiction and other transaction-specific factors.
While not defined under U.S. GAAP, normalized EBITDA is a critical metric for buyers and sellers to understand the true earnings power of a business. At HCVT, our Mergers & Acquisitions team performs QofE analyses for both buyers and sellers, though never for both sides of the same transaction. Our goal is to help deal participants gain clarity on earnings, identify potential risks, and unlock opportunities before a transaction is finalized.
Key Benefits of a Quality of Earnings Report
- Validate adjustments to EBITDA: For the purpose of a transaction, earnings are typically normalized for non-recurring or out-of-period revenues and expenses. The QofE process will help identify and validate add-backs and non-recurring adjustments to reflect normalized earnings, enabling both parties to better assess enterprise value pre- and post-transaction.
- Resolve accounting issues: Keeping pace with changing and complex accounting standards is a challenge for most businesses. Now that it is the time to buy or sell, accurate financial reporting in accordance with generally accepted accounting principles in the United States (“US GAAP”) is critical to determining the value of a business. The QofE due diligence process will identify accounting gaps or non-GAAP-compliant practices that may impact value or timing.
- Promote a more efficient transaction: When an interested buyer signs a letter of intent (“LOI”), there is a limited amount of time for the buyer to complete their diligence and decide whether to move forward with a potential transaction. A sell-side QofE prepares sellers to anticipate buyer inquiries, accelerating the diligence process and reducing pressure on internal teams once the LOI is signed.
- Maintain control of the narrative: Due diligence will give a buyer or seller a view of the company’s adjusted EBITDA and insight into how a deal participant will analyze earnings and key components of the financials. Sellers can proactively shape the financial narrative and avoid leaving value on the table by establishing a defensible, favorable presentation of EBITDA.
- Establish a realistic working capital target: A working capital target is established before closing a transaction, defining the amount of working capital (current assets less current liabilities) that the seller needs to deliver to the buyer upon closing. This target is typically derived based on the recent historical working capital required to operate the business. Our analysis helps normalize working capital, avoiding surprises at closing and reducing the likelihood of disputes over purchase price adjustments.
- Enhance credibility and support: Whether the business lacks audited financials or the in-house team needs support responding to inquiries, a QofE lends professional credibility and transaction-specific insight. Furthermore, while audited or reviewed financial statements by an independent accountant give the historical financials more credibility, a QofE analysis complements these annual financial statements with the ability to adapt the reported period to a more recent time frame and present the trailing twelve-month period most relevant to a transaction.
Is Your Company a Strong Candidate for a Quality of Earnings Analysis?
If you're navigating a major business transition, a QofE report can be the difference between a smooth deal and a stalled negotiation. Ask yourself the following:
You're a seller if…
- You’re preparing to sell your business within the next 6–18 months.
- You’ve received interest or a Letter of Intent (LOI) from a potential buyer.
- Your company’s financials haven’t been audited (or not recently).
- You want to identify and correct any accounting issues before buyer diligence begins.
- You want to take control of the financial narrative to maximize value and minimize surprises.
- You’re looking for support to manage buyer requests and tighten up your reporting.
You're a buyer if…
- You're planning to acquire a company and want assurance around EBITDA quality and sustainability.
- You’re concerned about revenue concentration, inconsistent accounting practices, or aggressive financial reporting.
- You want a clear view of normalized working capital and debt-like items before you close.
- You’re working on a leveraged transaction and need third-party financial diligence for your lender.
- You want to confirm whether reported earnings truly reflect the company’s cash-generating power.
You're a business owner or investor if…
- You're considering a recapitalization, partial sale, or strategic investment.
- You’ve experienced rapid growth, seasonality, or recent one-time events that may skew your financials.
- You want a fresh, objective view of your company’s financial position, whether to prepare for a future transaction or simply to get your house in order.
Frequently Asked Questions About Quality of Earnings
- What’s included in a QofE analysis beyond EBITDA adjustments? In addition to normalizing EBITDA, we evaluate working capital trends, revenue and profitability trends, debt-like items, customer and vendor concentrations, accounting policy consistency, and the quality of internal financial controls.
- How is your approach different from other providers? We have ex-Big 4 Partners with experience in both buy-side and sell-side QofE focusing on actionable insights. Our team combines deep technical knowledge with industry experience to uncover what others may miss.
- How long does a typical QofE engagement take? Most projects take 3–6 weeks depending on the complexity of the business and the responsiveness of your internal team. We offer flexible timelines when transactions require a faster turnaround.
- What do you need from us to get started? We’ll request recent financial statements, trial balances, bank reconciliations, management reports, and key contracts. We’ll guide your team through a clear data request list and coordinate timelines to minimize disruption.
- Do you work with our other advisors? Absolutely. We frequently collaborate with attorneys, investment bankers, tax advisors, wealth advisors and internal teams to ensure a seamless diligence process.
- What’s the difference between a QofE and audited financials? Audited financials assess historical accuracy and compliance. A QofE analyzes recent performance, adjusts for non-recurring activity, and focuses on what buyers care about most: sustainable earnings and risks.
