Ten Red Flags a Quality of Earnings Report Should Catch — and Often Doesn't

Add-backs, working capital pegs, and revenue recognition traps that quietly cost buyers seven figures after close.

A Quality of Earnings report is a diligence floor, not a ceiling. On a $10M–$50M deal, a well-run QofE catches obvious add-back inflation and normalizes historicals. What it often misses is the stuff that quietly costs the buyer seven figures in the first year.

The ten we look for

• Owner comp normalization that's too aggressive. Replacing a $600K owner with a $150K "market" GM is a lie the model tells itself.
• One-time revenue treated as recurring. A single large project in the trailing twelve months shouldn't sit inside run-rate EBITDA.
• Deferred maintenance capex. Trucks past useful life, equipment overdue for rebuild, roofs at end of life. None of it hits EBITDA — all of it hits year-one cash.
• Working capital peg set on a cherry-picked month. The peg should be a trailing-twelve average, not the seller's best month.
• Customer concentration hidden in a "top 10." If customer #1 is 28% of revenue, the concentration line matters more than the multiple.
• Rebate income that doesn't transfer. Supplier rebate programs are often personal to the owner. Confirm assignability.
• Percentage-of-completion accounting on jobs that slipped. Revenue recognized, cost overruns pending. Get the WIP schedule.
• Related-party rent below market. The building comes with the deal or a new lease is signed at market — model both.
• Uncollectible AR sitting in the AR aging. Anything past 120 days without a note attached is usually zero.
• Accrued PTO and commissions. Real liabilities that rarely make it into net working capital calculations.

How to use the list

Hand it to your QofE provider at engagement and ask them to explicitly opine on each item. That single email changes the shape of the report you get back — and the shape of the negotiation that follows.