Although I don’t often think of myself as an accountant, I guess I technically am an accountant by degree. I don’t really care for accounting work because it is primarily about recording the past, not thinking about the future. I guess that is why I built a future oriented financial projection business because I like thinking about the future more than the past.

But every once in a while I am reminded why the little details of accounting and proper bookkeeping really matter.

Last week I was helping a client with a Quality of Earning “Sniff Test” where I do some high level analysis on a seller’s financial statements to help the buyer determine whether the deal makes sense compared to industry standards, does the valuation seem reasonable, will it qualify for SBA financing, etc.

The deal looked pretty good until I noticed one little symbol down at the very bottom of the financial statements. It was a minus sign. And it was next to the interest expense.

The financials showed a -$100,000 interest expense.

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So let’s say the financials looked like this:

Sales = $2,000,000

Expenses = $1,800,000

Net Income = $200,000

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But within the expenses there was a negative $100,000 interest expense. When the seller was asked about this, he said “yeah that is due to a glitch with Quickbooks” or something to that effect. He said that it should in fact be a positive $100,000 interest expense.

In this case, that isn’t just a $100,000 mistake, it is a $200,000 impact to the bottom line.

Once you remove the negative sign you would realize that the other expenses amounted to $1.9 million and they were reduced by the negative interest expense to $1.8 million.

But that is not all…

Once you add in the positive interest expense it brings the true expenses to $2 million.

The business went from making $200,000 to making $0 based on a simple mistake in the journal entry to record loan payments.

The deal went from looking promising to looking like a dead deal.

Ouch!

I have seen this type of mistake a lot during my time as an SBA lender as well. A simple bookkeeping error where you might be switching your debits and credits can cause a glaring mistake in your financial statements that tends to just jump off the page to trained lenders.

Once a lender sees a mistake in your financial statements it is all but over.

Now they don’t know if they can trust any of your financial information. What other mistakes are lurking? Once trust is broken it is hard to regain.

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The Cost of a Dead Deal

The reality is that there are going to be mistakes and sometimes deals are going to die because of simple bookkeeping mistakes. If you are looking to buy a business like I am, the hope is to kill the deal as early as possible while spending the least amount of time and money on a deal that ultimately doesn’t work out.

The Search Investment Group 2023 Self-Funded Search Study looked at the cost of dead deals. While 75% of searchers spent $25,000 or less on dead deal expenses, 10% of searchers spent over $50,000 on deal expenses like legal and quality of earnings report expenses just to have the deal ultimately die.

If you are looking to buy a business, unfortunately, you need to expect to budget for some dead deal expenses.

Have you had a deal die after you have spent money on deal expenses? Any tips for minimizing this in the future?