When it comes time to sell your business, there’s one detail that can quietly sabotage the deal—or at least the price you hoped to get. It’s not your revenue. It’s not your growth story. It’s your accounting method.
Many small and medium-sized business owners manage their financials using the cash method of accounting. It’s simple, intuitive, and easier to manage for tax purposes. But when it comes to selling the business—and getting top dollar—the cash method can create challenges, because it often fails to reflect the economic reality of your business.
Cash vs. Accrual: A Quick Refresher
Here’s the core difference:
- Cash accounting records revenue when money is received and expenses when money is paid.
- Accrual accounting records revenue when it is earned and expenses when they are incurred—regardless of when cash changes hands.
At first glance, the difference may seem academic. But when a buyer evaluates your company, they’re not just looking at your bank balance. They’re trying to understand how your business actually performs over time and that’s where cash accounting can create distortions.
As an example, I once worked with a professional services firm doing $3.8 million in annual revenue. On paper, their cash-based financials showed strong profits—especially in Q2 and Q4.
But when the buyer’s CPA dug into the details, they discovered the company was pre-billing clients for future work (and recognizing it as revenue) and but delaying payment to contractors until later period when the work was actually done. The result was that profits were artificially boosted in some periods and depressed in others.
After restating the financials on an accrual basis, EBITDA came in 18% lower than originally presented. The buyer adjusted their offer downward—and restructured it to include an earnout. The deal eventually closed, but the seller left money on the table and endured months of renegotiation and risk.
Why the Timing Mismatch Matters
Cash accounting does not always conform to one of the most basic principles of financial reporting: matching revenues with the expenses that generated them.
Here’s how this mismatch can play out:
- Suppose you receive a large payment from a customer in December for an order that was delivered that month. However, even though your supplier billed for the raw materials in December, you did not pay until January. On a cash basis, you show strong profits in December—because the revenue hit the books but the associated costs didn’t. To a buyer, that inflated margin raises red flags and creates confusion about true profitability.
- Similarly, if your company invoices a client for a completed project in December but doesn’t receive payment until February, that revenue won’t show up in your books until the following year—again misaligning operational performance with financial reporting.
These mismatches can make your company appear erratic or unpredictable to a potential buyer, even if your operations are steady.
Impact on Business Valuation
Buyers typically value businesses based on metrics like EBITDA (or Seller Discretionary Earnings), revenue trends, and working capital. These indicators are highly dependent on timing. When your financials are prepared on a cash basis:
- Your EBITDA may be overstated or understated, depending on when major revenues and expenses are recorded.
- Your trailing twelve-month (TTM) performance may misrepresent your operating reality.
- Adjustments will almost certainly be required during the buyer’s quality of earnings (QoE) review.
If you don’t address these issues up front, it is likely that the buyers will. A cash-accounting business will often necessitate a formal QoE study—either commissioned by the seller to preempt buyer concerns, or by the buyer as a condition of proceeding. That delays the process, increases transaction costs, and heightens the risk that the deal falls apart during diligence.
The bottom line….cash accounting muddies the waters. Accrual accounting brings clarity—and with it, buyer confidence.
What Buyers Want (and Expect)
Serious buyers—particularly private equity groups or strategic acquirers—expect accrual-based financials. It’s the standard in due diligence. If you’re operating on a cash basis, you should anticipate:
- Additional scrutiny during diligence
- Conservative assumptions applied to normalize financials
- A high likelihood of a buyer-commissioned QoE study, which extends the timeline and may uncover unfavorable adjustments
- Potential reduction in purchase price or a restructured deal (e.g., earnout provisions)
An experienced business broker or advisor can help you navigate this process—but they can’t change the underlying reality of your numbers.
Making the Transition
If your business currently uses cash accounting, shifting to accrual doesn’t have to be overwhelming—but it does require planning and the knowledge of a good CPA.
The first step is to identify key accrual elements such as accounts receivable, accounts payable, deferred revenue, and prepaid expenses. From there, you’ll want to generate accrual-adjusted financial statements for at least the past two to three years. It may also be helpful to invest in accounting software that supports accrual tracking if you don’t already use one. Finally, consider whether a sell-side quality of earnings report makes sense as part of your preparation—it can strengthen buyer confidence, streamline diligence, and put you in control of the narrative. Getting these pieces in place early will save time, reduce surprises, and help you present a clear, credible financial story when it matters most.