What Do Buyers Look For in a Quality of Earnings Review?
A quality of earnings review tests one question from several directions: are the earnings the seller presented real, recurring, and produced the way the seller claims? The analyst verifies that reported revenue actually arrived as cash, sorts revenue by how likely it is to continue, tests every add-back and adjustment for documentation, examines how the accounting methodology shapes the numbers, and measures the working capital the earnings depend on. For a seller, the practical value of knowing this list is that every item on it can be prepared for in advance, and most of the damage QoE findings do happens only when they arrive as surprises.
This article walks the categories from the seller’s preparation angle, written as practitioner guidance about a market practice rather than a statement of any rulebook.
What is a quality of earnings review, and who performs it?
A QoE review is a focused financial analysis a buyer commissions on the business they are acquiring, performed by an independent accounting or advisory firm the buyer engages, most often after a letter of intent is signed. Its purpose is narrower and deeper than a set of financial statements: not “do the books balance,” but “can these earnings be trusted to continue under a new owner, at the level presented.”
Two boundary points matter, and both cut in the seller’s favor when understood early. First, a QoE is not an audit: it does not express an opinion on the financial statements under auditing standards, and businesses that have never been audited go through QoE reviews every day. Imperfect books are an expected input, not a disqualification. Second, the QoE belongs to the buyer. A seller cannot substitute their own advisor’s work for it, and should not try; what a seller can do is run the same categories of analysis on themselves first, which is the preparation logic laid out in how do I prepare my business to sell.
One dated exception to the market-practice framing: for SBA 7(a) acquisitions governed by SOP 50 10 8.1 (effective October 1, 2026), Business Expansion and Initial Acquisition transactions with a purchase price of $3 million or more require a Quality of Earnings analysis by an independent, experienced provider, including a cash proof, and the lender must use the QoE earnings in the debt-service coverage determination. (Source: SBA SOP 50 10 8.1, Appendix 15 (Quality of Earnings requirement), verified against the SOP document September 2, 2026.) At that size, the review this article describes is not optional, and the full rule sits in context in SBA-financed business acquisitions.
What does the analyst actually test?
The categories below are consistent across providers, framed here as practitioner description of market practice. The table runs each one from the seller’s side: what gets tested, and what a prepared seller has ready.
| Category | What the analyst tests | What a prepared seller has ready |
|---|---|---|
| Proof of cash | Reported revenue and expenses reconciled to actual bank deposits and disbursements | Bank statements organized by account; explanations for transfers and owner activity |
| Revenue quality | Recurring versus project revenue, concentration by customer, recognition timing, deferred revenue and deposits | Revenue by customer by month; contracts; a clean statement of how and when revenue is recognized |
| Earnings sustainability | Trend by month, one-time items, pulled-forward sales, expense timing around the listing period | Monthly statements over trailing years; one-time items identified by the seller before the analyst finds them |
| Add-backs and adjustments | Every claimed adjustment against documentation and recurrence | The schedule with an invoice, payroll record, or contract behind each item |
| Accounting methodology | Cash versus accrual, consistency across periods, book-to-tax reconciliation | Accrual books with a monthly close; the book-to-tax reconciliation prepared, not improvised |
| Working capital and balance sheet | Receivables quality, inventory composition, deposits and accruals, the working capital the earnings require | Agings, inventory detail, and the peg analysis run in advance |
Each row connects to work this site covers in depth: the add-back tests in which add-backs are legitimate in a business sale, the presentation review in how to read a broker-prepared profit and loss (which is the same review run from the buyer’s chair), and the working capital analysis in what is a working capital peg in an acquisition.
Which findings hurt sellers most?
Framed as practitioner judgment, the findings that most often move price or kill deals share a pattern: they convert a number the seller presented into a number the buyer proves, and the gap becomes the negotiation.
- Revenue that does not trace to cash. The foundation failure. When deposits do not support the P&L, everything else in the file is discounted with it.
- Add-backs that collapse. Each stripped adjustment reduces the earnings the price was built on, and at a multiple, every stripped dollar costs several.
- A listing-year surge. Revenue pulled forward, expenses deferred, or a one-time contract in the most recent year reads as staging, and analysts look for it specifically.
- Deferred revenue counted as earned. Money collected for work not yet delivered is a liability the buyer inherits; finding it late reprices the deal and sours the file.
- Concentration confirmed. The QoE quantifies what the CIM softened, and the finding arrives attached to structure demands: earnouts, escrows, holdbacks.
- A working capital hole. Earnings that require more working capital than the balance sheet carries turn into a price adjustment through the peg negotiation.
None of these is fatal when the seller surfaces it first, with an explanation and, where possible, a fix already underway. Nearly all of them are expensive when the buyer’s analyst finds them instead.
How should a seller prepare for a QoE review?
By running the review on yourself before the market does, then fixing what it finds in the order laid out in the readiness sequence. In practice that means the proof-of-cash reconciliation done on your own bank statements, your earnings rebuilt on both SDE and adjusted-EBITDA bases with documents behind every adjustment, one-time items identified and labeled by you rather than discovered by an analyst, the book-to-tax reconciliation prepared, and the working capital history assembled. Sellers who arrive with that file do two things at once: they shorten the buyer’s QoE, and they take the surprise, which is most of a finding’s negotiating force, out of whatever remains.
The role division stays clean throughout: the buyer’s QoE is performed by the buyer’s independent provider, and a seller’s preparation work informs it without replacing it. A structured version of that preparation, run by your own advisor with the findings delivered to you first, is the engagement described at exit readiness review. An article on how small businesses are valued for sale, the natural companion to this one, is in preparation.
Related and next steps
- How do I prepare my business to sell? →The full readiness sequence this preparation fits into.
- Which add-backs are legitimate in a business sale? →The documentation standard the add-back testing applies.
- What is a working capital peg in an acquisition? →The working capital analysis the QoE feeds.
NexTax Advisory's exit readiness review takes your actual financials through the QoE categories early, and delivers the findings to you first.
Steve Morello is the founder of NexTax Advisory. His career spans corporate tax and transaction-related tax matters across private-equity and investment-fund environments, including experience at EY and Morgan Stanley. Today he applies that financial and tax background to lower-middle-market acquisitions and exits, and is the creator of AcquiFlow, pre-LOI underwriting software for SMB buyers.
Published September 1, 2026. Materially reviewed September 1, 2026. This article is general information, not advice for your specific situation. NexTax Advisory provides financial and tax advisory services and does not provide legal services or formal audit or attest engagements. Consult your own attorney, lender, and accountant on your specific transaction.