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Quality of earnings review saves $5 million in target’s purchase price

03.23.2015

As Seen in BizTalk in the St. Louis Business JournalRecently, Brown Smith Wallace was engaged to help a public company with its due diligence and quality of earnings review to finalize a purchase agreement for a target company acquisition. During the course of our review, we identified key issues and helped with the negotiation process that resulted in a more than $5 million reduction to the $50 million purchase price. The company had been audited by a major firm in prior years and was owned by a private equity firm.

EBITDA Add-Backs Challenged

Our transaction advisory team was able to identify a number of EBITDA adjustments the seller was trying to add back to earnings to increase the valuation of the selling price. Our professionals, who also are certified valuation analysts, have worked for and with a number of private equity firms on deal transactions in the past, so the seller knew about our transaction advisory diligence experience. We conducted testing, cleaned up the balance sheet and performed a quality review of the earnings. We challenged the adjustments and assisted in the due diligence negotiations with both parties to clearly explain our findings and our perspective of their impact on the valuation. After extensive back and forth on both sides, the seller agreed to a $5 million haircut off their original purchase agreement amount.

We also identified a number of post-closing recommendations for improvements for our client. These affected the balance sheet accounting as well as operations. We identified synergistic cost-saving opportunities, internal control process-related risks and a couple of key forensic findings, which allowed the company to relax some strenuous guarantee language in the purchase agreement from the seller.

A Renewed Focus on Independence

Independence is an important reason this international public company uses our firm for these types of assignments rather than the outside auditing firm that conducts its financial statement audit. It's a conflict of interest and violation of independence regulations when the external audit firm provides services where the results are subject to audit procedures as part of that same firm's financial statement audit. Also, if you are not the attest auditor for the financial statements, an accounting firm can present business risk considerations to the board and others on behalf of management.

Given the uptick in regulatory focus on auditor independence, it is even more important for companies to identify additional, dependable accounting firm resources with the capability to handle appropriate special projects.

Of course, this company has worked with us on a variety of assignments because we have proven that we can deliver quality service from experienced professionals with a wide range of expertise. Executives at the company also appreciate that we provide high value at a significant savings from other firms because of our lower cost structure.

Brown Smith Wallace professionals have served on both sides of the desk leading and advising on transactions. Click here to learn more about our due diligence experience and check out the 10 due diligence items that are often overlooked in purchase negotiations.

Bryan GraiffOr contact Bryan Graiff, Partner in Charge, Transaction Advisory & Litigation Support, at 314.983.1390 or bgraiff@bswllc.com.

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