StarForge Advisors

Diligence checklist

Quality of Earnings scope checklist

Use this before you hire a QoE provider — to scope their work, evaluate their proposal, and avoid the common gap between 'QoE summary deck' and 'data the lender will actually accept.' This is a pre-engagement specification, not a substitute for the QoE itself.

Download DOCX QoE Scope Checklist.docx

How to use this checklist

This is a scope specification, not a finished QoE product. Use it three ways:

  1. Send it to two or three QoE providers as your RFP. The cost spread will tell you who's serious.
  2. Score the proposals you get back against this list. A provider who proposes a meaningfully smaller scope is either cheap-and-dangerous or has identified items they consider unnecessary — ask which.
  3. Use the checklist to keep your provider on track during the engagement. Most QoE friction comes from scope creep mid-engagement; this anchors the agreement.

Pre-engagement

  • Confirm provider has done at least 5 QoEs in the target's industry in the past 24 months
  • Reference check: 2 prior buyers (not sellers) in similar deal sizes
  • Confirm partner-level engagement, not staffed entirely by junior associates
  • Confirm provider will issue a written report (not just a deck) that the SBA lender will accept
  • Engagement letter specifies deliverables, timing, and sign-off process
  • Engagement letter clarifies who pays if deal breaks (buyer pays; this is standard)
  • Provider has executed the seller's NDA before any data exchange

Financial scope — "QoE proper"

Trailing-twelve-month and historical revenue analysis

  • Monthly revenue by category for the last 36 months
  • Customer concentration: revenue from top 10 customers, % of total, year-over-year
  • Customer retention/churn analysis: customers from 36 months ago still active today
  • Contract base (where applicable): MRR, ARR, contract length, renewal rates
  • Revenue recognition policies: cash vs. accrual, timing of recognition
  • Identification of one-time or non-recurring revenue items
  • Seasonality analysis: monthly variance, quarterly variance

Cost of goods / direct cost analysis

  • Margin trends by product/service line for last 36 months
  • Material/inventory cost trends: vendor concentration, price escalations, inventory turns
  • Labor cost: direct labor by category, overtime trends, contractor vs. employee split
  • Identification of below-market vendor pricing or expiring contracts

Operating expense analysis

  • Owner true total compensation (W-2 + distributions + benefits + perks) for last 3 years
  • Manager-replacement compensation at market rate for the buyer's geography
  • Family member compensation and rationale (if applicable)
  • Personal expenses run through the business (vehicles, country club, travel, family payroll)
  • Below-market-rate related-party transactions (rent, services, vendor relationships)
  • Insurance: business interruption coverage adequacy, premium trends
  • One-time items in the last 36 months: legal fees, settlements, system migrations, COVID-related

EBITDA bridge

  • GAAP net income → operating EBITDA bridge with every adjustment itemized
  • Operating EBITDA → Adjusted EBITDA bridge with normalizing adjustments itemized
  • For each normalizing adjustment: rationale, supporting documentation, recurrence assessment
  • Buyer-friendly adjustments (the seller suggests these): scrutinize
  • Buyer-unfriendly adjustments (manager-replacement comp, depreciation-equivalent CapEx): identify and quantify
  • Reconciliation of QoE EBITDA to tax-return EBITDA, with explanation of differences

Working capital analysis

  • TTM monthly working capital trend (AR + Inventory − AP)
  • Seasonal trough identification
  • Customer terms: average days sales outstanding (DSO), aging schedule
  • Vendor terms: average days payable outstanding (DPO), trade credit relationships
  • Inventory: turns, obsolescence, reserves
  • Recommended working-capital peg with methodology footnote

Cash flow validation

  • Reconciliation: bank statements → cash receipts → revenue (sales tie-out)
  • Reconciliation: bank statements → cash disbursements → expenses (operating tie-out)
  • Identification of any unexplained cash flow items in last 36 months
  • Free cash flow conversion ratio: EBITDA → cash, with reconciliation

Operational scope — "the things QoE often misses"

Pure financial QoE leaves blind spots that bite buyers post-close. Add these to scope (or to a separate operational diligence track) for any deal where the buyer is taking over operations.

Customer health

  • Customer interviews with top 5 by revenue (under NDA, after LOI exclusivity)
  • Identification of any "owner-attached" customers who may not stay through transition
  • Pipeline review: signed-but-unfulfilled, in-process, prospects
  • NPS or equivalent customer satisfaction signal (where available)

Vendor and supply chain

  • Top 10 vendors: relationship length, terms, sole-source vs. multi-source
  • Vendor risk: any concentration, geographic risk, key-person risk at vendor
  • Inventory in transit and supply-chain exposure
  • Contracts up for renewal in the next 12 months

Employee diligence

  • Org chart, with tenure, role, and replacement difficulty for each key person
  • Compensation benchmarking against market: who's overpaid, who's underpaid
  • Non-compete and non-solicit coverage: which employees, enforceability in jurisdiction
  • Pending claims: workers' comp, EEOC, wage disputes
  • Benefits: 401(k) compliance, ACA reporting, COBRA administration

Legal and regulatory

  • Litigation history: pending, threatened, recently-settled (last 7 years)
  • Regulatory compliance: industry-specific licenses, permits, OSHA, environmental
  • Material contracts: customer agreements, vendor agreements, leases, software licenses
  • Change-of-control provisions in material contracts
  • IP ownership: patents, trademarks, software, with clean chain of title

Tax exposure

  • Federal income tax: last 5 years filed, no audits or open positions
  • State income tax nexus and filings, especially for multi-state operations
  • Sales tax: registration, filing, exemption certificates, audit history
  • Payroll tax: 941, 940, state UI, no past-due balances
  • Property tax: business personal property filings up to date

Reporting deliverables — what you should get

  • Executive summary (5–10 pages) suitable for SBA lender package
  • Detailed QoE report (40–80 pages) with all schedules
  • EBITDA bridge schedule (Excel or PDF) with every adjustment itemized
  • Working capital trend schedule (monthly, 36 months)
  • Customer concentration schedule
  • Material contracts log
  • Open-items list: anything the QoE provider couldn't verify
  • Provider's name and credentials on the report (lender requires this)

Common red flags to investigate

If any of these come up, dig in further before signing:

  • Provider proposes scope materially smaller than this list with no explanation
  • Provider has done less than 3 QoEs in the target's industry
  • Provider declines to issue a signed written report (deck-only deliverable)
  • Adjustments table is heavy on buyer-unfavorable items being added back, light on buyer-favorable items being subtracted
  • Customer concentration analysis shows "top customer is <15% of revenue" but the seller refuses customer interviews
  • Cash flow doesn't reconcile to bank statements within 1–2% of TTM revenue
  • Tax-return EBITDA and QoE EBITDA differ materially with no explanation

Cost expectations

For a $1M–$5M EBITDA target:

  • Light QoE: $15K–$25K. Risk: missing operational and tax-exposure issues.
  • Standard QoE: $25K–$50K. The middle of the market for this deal size.
  • Comprehensive QoE: $50K–$80K. Includes operational diligence and tax exposure analysis. Justifiable on deals with concentration risk, multi-state operations, or contested EBITDA bridges.

See DSCR as SBA lenders actually calculate it for why the QoE EBITDA matters more than the headline number — the lender will compute DSCR off the QoE-adjusted EBITDA, not the seller's stated number.