Due Diligence Preparation for Sellers: What Buyers Look For

If you were buying a house, you wouldn't just trust the listing photos; you would inspect the foundation, the roof, and the electrical wiring. Acquiring an accounting firm is no different, except the "wiring" involves complex client relationships, software stacks, and staff hierarchies. We've seen countless deals where the initial letter of intent (LOI) promised a lucrative exit, only for the price to be chipped away—or the deal abandoned entirely—because the seller wasn't prepared for the depth of inquiry. Rhetorically speaking, would you rather scramble to find three-year-old engagement letters under pressure, or present a digital data room that tells a compelling story of growth and stability?

In this article, we will dissect the anatomy of modern due diligence. We will look beyond the basic profit and loss statements to explore the operational and cultural metrics that sophisticated buyers now demand. Whether you are looking to exit in six months or six years, understanding these requirements now is the ultimate leverage.

The Financial Deep Dive: Beyond the Tax Returns

It is a common misconception that if your tax returns show a profit, you are ready to sell. While tax returns are the starting point, sophisticated buyers know that tax documents are designed to minimize liability, not necessarily to showcase the true earning power of a business. This is where the concept of "recasting" or normalizing financials becomes the centerpiece of your accounting practice due diligence preparation.

Buyers are looking for the Adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization). They want to know the cash flow available to them after you, the current owner, depart. This requires a granular analysis of your expenses.

Identifying Add-Backs and Normalizations

One of the first places a buyer will dig is your general ledger to verify "add-backs." These are expenses run through the business that will not continue under new ownership. Common examples include:

• Owner Compensation: If you pay yourself a salary significantly above or below market rate for a replacement manager, this needs adjustment.
• Personal Expenses: Vehicles, travel, or family members on payroll who do not actively work in the firm.
• One-time Expenses: Costs for a server migration, a lawsuit settlement, or office renovation.

However, we often see sellers get too aggressive here. Trying to claim that 80% of your travel was "personal" when it was logged as "professional development" can trigger credibility issues. Transparency is key. For a deeper understanding of how these numbers impact your final sale price, you should review our valuation guide to see how multiples are applied to these adjusted figures.

The Quality of Revenue

Is a dollar of revenue always worth a dollar? Not in M&A. Buyers heavily scrutinize the quality and consistency of your revenue streams. They will segment your revenue to look for trends that a P&L specifically hides.

Industry data suggests that firms with a higher percentage of monthly recurring revenue (MRR) not only sell faster but withstand due diligence scrutiny better because the revenue proof is in the bank deposits, not just the invoices.

Operational Due Diligence: The "Bus Factor"

Perhaps the most significant shift in accounting M&A over the last decade is the focus on operations. Ten years ago, buyers bought a book of business. Today, they are buying a workflow. They are asking a terrifying question: "If the owner gets hit by a bus tomorrow, does the revenue stop?"

If the answer is yes, your firm is considered a high-risk asset. Operational due diligence seeks to verify that the firm's intelligence resides in its systems, not just in the owner's head.

Tech Stack and Workflow Documentation

Buyers will want to log into your practice management software. They are looking for standardization. Do you have a defined workflow for tax returns? Is there a documented onboarding process for new CAS clients? Or is every client treated as a unique art project?

This is where data visibility becomes critical. Modern acquirers—especially private equity-backed firms—rely on data analytics to assess efficiency. Platforms such as Firmlever Signal help accounting practices aggregate disparate data streams to present a unified view of firm performance, which can be invaluable during this phase. Being able to instantly demonstrate staff utilization rates and project turnaround times without manual spreadsheet gymnastics instills massive confidence in a buyer.

Staff Dependency and Culture

Who actually holds the client relationship? If you have a senior manager who manages 40% of the revenue, that employee is a "key person risk." During due diligence, buyers may ask to review employment contracts (looking for non-competes) and interview key staff (usually in the later stages).

We've seen deals stall because the buyer realized the firm had high staff turnover, indicating a toxic culture or poor management processes. A stable team is often as valuable as a stable client list.

Client Portfolio Risk Assessment

You might be proud of your largest client, the one that generates $150,000 a year. A buyer, however, sees that as a threat. If that single client represents 15% of your total revenue, you have a concentration issue.

The "Top 10" Report

Every due diligence checklist will require a report of your top 10 or 20 clients by revenue. Buyers will ask:

• How long have they been with the firm?
• What is the realization rate on their work? (Are you over-servicing them?)
• What is the age of the client owners? (Are they about to retire and sell?)

Aging Accounts Receivable

Nothing sours a deal faster than a bloated Accounts Receivable (AR) report. If you have significant AR over 90 days, buyers will assume those are bad debts. They will often demand that uncollectible AR be written off prior to closing, which lowers your working capital target. For a comprehensive look at the steps involved in this phase, refer to our due diligence guide, which breaks down the specific document requests you will encounter.

Legal and Compliance Scrutiny

While financials and operations tell the story of value, legal diligence tells the story of risk. This is often the driest part of the process, but it is where "deal killers" hide.

Liability and Insurance

Buyers will review your history of professional liability claims. Even if a claim was settled years ago, it must be disclosed. They will also verify that your firm is in good standing with the IRS and state boards. According to the AICPA’s PCPS resources, maintaining pristine documentation regarding peer reviews and state licensing is non-negotiable for a smooth transition.

Data Security and Privacy

In an era of increasing cyber threats, buyers are acutely sensitive to data security. Do you have written Information Security Plans (WISP)? Have you had any data breaches? Compliance with IRS Publication 4557 is not just a regulatory requirement; it is a value defender. A firm with lax security protocols represents a potential ticking time bomb of litigation.

The Pre-Diligence Framework: Getting Your House in Order

So, when should you start preparing for due diligence? Ideally, two years before you intend to list your firm. This timeline allows you to clean up the books, transition clients to recurring billing, and document processes.

However, even if you are looking to sell sooner, there are immediate steps you can take. We recommend conducting a "mock due diligence" on yourself. Look at your firm through the eyes of a skeptical outsider. Where are the gaps?

Organizing the Virtual Data Room (VDR)

The hallmark of a prepared seller is a pre-populated Virtual Data Room. This is a secure digital repository where you organize your documents into folders (Financials, Legal, Employee, Client, Tech). When a buyer asks for your lease agreement, and you can grant them access to the specific folder within minutes, you establish authority.

Tools like Firmlever Signal enable firms to monitor key performance metrics in real-time, effectively keeping the "data room" of operational metrics constantly updated. This continuous readiness approach prevents the frantic scramble that typically occurs when an LOI is signed.

Understanding when to pull the trigger on a sale is just as important as the preparation itself. You can explore more about market cycles in our article on exit timing.

Frequently Asked Questions

1. How long does the due diligence process usually take?

Typically, accounting practice due diligence lasts between 30 to 90 days after the Letter of Intent (LOI) is signed. The speed depends heavily on how organized the seller is. If you have a clean data room ready to go, you can compress this timeline significantly. Delays often occur when the seller has to create reports from scratch.

2. Will my clients find out I'm selling during due diligence?

Confidentiality is paramount. In almost all cases, clients should not know about the sale until the deal is closed and a transition plan is in place. Due diligence is conducted under a strict Non-Disclosure Agreement (NDA). Site visits are usually done after hours, or the buyer is introduced as a "consultant" if they must visit during the day.

3. What is the difference between an asset sale and a stock sale in due diligence?

Most small to mid-sized accounting firm sales are asset sales. Buyers prefer this to avoid inheriting unknown legal liabilities (like past malpractice suits) associated with the legal entity. In a stock sale, the buyer takes the whole entity, warts and all, so the legal due diligence is much more exhaustive and expensive.

4. Can a buyer lower the price after due diligence?

Yes, this is called "retrading." If due diligence uncovers material differences between what was represented initially and what is found in the data (e.g., revenue is actually 10% lower, or client churn is higher), the buyer will likely revise their offer. This is why accurate initial representation is crucial. For more on how to protect your asking price, read our selling guide.

5. What if I don't have written contracts with all my clients?

This is common in smaller firms but makes buyers nervous. While you don't necessarily need a 20-page contract for every 1040 client, you should have engagement letters for your business clients. If these are missing, a buyer may require you to secure them as a condition of closing, or they may structure the deal with a larger "earn-out" to protect themselves against client attrition.

6. How far back do financial records need to go?

Buyers generally require three years of financial statements (P&L and Balance Sheets) plus the current year-to-date (YTD) financials. They want to see the trend line—is the firm growing, stagnating, or declining? They will also look at tax returns for the same period to reconcile them with your internal books.

7. What are the biggest "deal killers" found during diligence?

Aside from financial fraud or declining revenue, the biggest deal killers are usually: 1) High client concentration (one client is 20%+ of revenue), 2) "Skeleton in the closet" legal issues, or 3) The realization that the owner works 80 hours a week and the firm cannot function without them. Addressing these operational risks is essential.

Conclusion: Preparation is Profit

Due diligence is inevitably stressful, but it is also the period where trust is solidified. A seller who provides accurate data quickly is a seller who commands respect—and often, a higher valuation. By viewing your firm through the lens of a buyer, you can identify weaknesses and fix them before they become negotiation leverage against you.

Whether it involves cleaning up your AR, documenting your workflows, or ensuring your compliance records are spotless, the effort you put into accounting practice due diligence preparation pays dividends. It transforms your firm from a risky bet into a premium investment. Remember, buyers are willing to pay for certainty. The more visibility and accuracy you can provide regarding your firm's performance, the smoother your exit will be.

As the industry evolves, the reliance on data-driven decision-making will only increase. Capabilities provided by platforms like Firmlever Signal allow firm owners to maintain a constant state of readiness, turning the daunting mountain of due diligence into a manageable, organized process that leads to a successful close.