When selling your business, you need the financials to be ready. When it comes to the business financials, you’ll want to make sure that all the t’s are crossed and all the i’s are dotted. Selling your business could be quite stressful if you are trying to do it yourself.
Your business financials could be a deal-breaker if they are not orderly, understandable, and accurate. Here we are going to talk about common bookkeeping mistakes most small business owners make when trying to sell their business.
Table of Contents
Three common bookkeeping mistakes most small business owners make
1. Poor Record Keeping
You will need to have at least three years of clean financials when selling your business. Financials are considered clean when transactions are recorded properly, in the correct accounts, for the right amount on the correct date.
Poor financial reporting not only hinders your ability to make informed decisions on managing or growing your company but will also destroy buyer/investor trust and confidence in your potential as an investment.
Without those clean financials, prospective buyers cannot do the proper analysis that’s required to decide whether or not they ultimately want to purchase your business. A buyer may be forced to pass on purchasing your business if you are unable to provide clean monthly financials.
For example, running your personal expenses through the business is a big no-no. Buyers want to understand the costs to operate the business and running personal expenses through the business will only complicate matters. Quickbooks is one of many common software applications to keep track of your business financials, with the goal of having clean financials.
Solutions:
- Keep your financials up-to-date (monthly income statements, balance sheets, and cash flow statements)
- Do not commingle business and personal funds
- Do not commingle business and personal expenses
- Proper revenue recognition
- Review categorization of income and expenses and make corrections if necessary
- Do your due diligence
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2. Misclassification of expenses
The majority of bookkeeping mistakes are due to human error. The integrity of the information in your accounting system is only as good as the information that you enter. Proper classification means entering an expense in the appropriate account, applying the correct description or code, and entering the correct amount.
Misclassification can occur in two ways:
- Simple mistakes or
- Erroneous account assignment
A few errors to look for when reviewing accounting reports are:
- Capital assets misclassified as expenses
- Misreported start-up costs
- Expenses assigned to the incorrect business entity
- Expenses assigned to the wrong account number
- Data entry errors
Incorrect expense reporting can distort a company’s profit margins or could result in over-reporting of income. Over-reporting of income would not be a good thing when selling a business, even if unintended. In addition, improper matching of income and expenses may cause incorrect reporting for companies using the accrual method of accounting. Some accounting errors can be corrected simply by making or changing an entry.
Solutions:
- Adopt best practices
- Check for differences between the actual budget and expenses
- Train staff on correct data entry
- Do a periodic review of entries
- Have a 2-tier quality control system in place (2nd set of eyes)
3. Balance Sheet not making sense
The balance sheet is a critical document when selling a business. However, as the balance sheet requires a lot of expertise to put together, most sellers don’t pay much attention to the balance sheet, which could end up being a costly mistake for you, the seller.
If the balance sheet is off and does not show the correct amounts relating to inventory, fixed assets (including fixtures), furniture and equipment, and goodwill transferred to the buyer, the seller could be in for a rude awakening.
The financial statements of a business provide a snapshot of the health of the business. The balance sheet shows a story at a point in time. Along with the Profit and Loss Statement, you want to make sure that the balance sheet is showing the correct numbers, especially if you are planning to sell the business.
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Solutions
- Adopt best practices
- Train staff on correct data entry
- Clean up your expenses
- Clean up your earnings
- Have a 2-tier quality control system in place (2nd set of eyes)
Adopting best practices
- Setting deadlines for the data entry and reconciliation so that errors are found quickly and can be easily corrected.
Cleaning up your expenses
- Trim the fat. In other words, get rid of unnecessary expenses. While it is recommended, it is not mandatory that you trim the fat because many buyers or their advisors are sophisticated enough to recognize these expenses and account for them when evaluating the business. These expenses are referred to as “add-backs When a buyer does this, it is sometimes referred to as “normalizing” earnings.
Cleaning up your earnings
- Not all kinds of earnings are created equal. Earnings that come from high-margin products or services are more desirable than earnings from low-margin products or services. To emphasize healthier revenue streams, consider shifting your operational focus.
If you know that you are going to be selling your business, consider an aggressive sales campaign 12-24 months prior to putting the business on the market. The key to doing this is without racking up a lot of expenses. Keep in mind that if the buyer does his or her due diligence, he or she could interpret the sales campaign as a tactic to make the business look better.
Final thoughts
To err is human and mistakes do happen. However, if you apply these best practices, do your due diligence, and handle your business (literally and figuratively), you should be in a much better place at the end of the day. First impressions are lasting impressions. You don’t get a second chance to make a good first impression. When selling your business, the first impression needs to be a lasting impression, especially as it relates to the business financials.