How should a buyer explain diligence findings to a lender?

What should the lender learn from the findings memo?

The memo should explain what the buyer is acquiring, what supports repayment, what could change that cash flow, and what remains unresolved. It is an organized account of evidence and consequences. The buyer hub connects financing to client retention, seller dependence, staffing, diligence, and the actual transaction structure.

Begin with the requested financing and a concise transaction description. State the acquisition date assumed, business model, service mix, ownership structure, and sources of repayment. Identify the financial periods reviewed and the limits of the records. Avoid making the lender reconstruct those basics from a collection of unrelated attachments.

How should a finding be structured?

Use a consistent sequence: observed fact, source, amount or operating implication, proposed response, and unresolved question. For example, identify an owner expense from the ledger, explain the business purpose, and show the supported recast treatment. Do not present a seller’s requested add-back as established merely because it appears in a schedule.

Assign each material finding a reference that connects to the supporting workpaper. Record who reviewed it and the review date. Preserve disagreement where it exists. A concise memo can still show that the buyer and seller have different views about replacement labor, client concentration, or the meaning of a payment obligation.

Which policy version applies?

For an SBA request, identify the current program requirements with the lender. SOP 50 10 version 8.1, effective October 1, 2026, distinguishes change-of-ownership categories and their requirements. Do not automatically copy an older loan summary into a new transaction or assume all acquisition structures receive identical treatment.

The current policy specifies debt-service coverage of 1.25:1 for Initial Acquisition and 1.15:1 for Expansion in the relevant change-of-ownership analysis; Owner Buyout and ESOP or Cooperative categories use 1.25:1. Classification, applicable measurement periods, and the underlying cash-flow analysis matter. Confirm the actual category and complete requirements rather than quoting one threshold as approval.

How should earnings be reconciled?

Build a bridge from the financial statements or tax records to the proposed supported earnings measure. Explain revenue timing, owner compensation, related-party costs, unusual expenses, and replacement needs. Preserve the difference between tax reporting and the operating cash flow used for repayment analysis.

Do not count the same adjustment twice. If replacement labor is included in one recast line, reconcile it with the staffing budget. If receivables produce a one-time closing cash source, do not treat the same amount as recurring earnings. Show whether every adjustment is verified, disputed, or awaiting records.

What does an illustrative recast show?

Assume a fictional practice reports $260,000 of earnings before the proposed adjustments. A documented nonrecurring expense of $15,000 increases the working analysis to $275,000. An assumed $55,000 replacement staffing requirement reduces it to $220,000. These invented figures illustrate the bridge, not a valuation or a lender’s accepted cash-flow calculation.

If assumed annual debt service is $150,000, dividing $220,000 by $150,000 produces approximately 1.47 before any additional lender-required adjustments. Explain every input and limitation. The lender determines the applicable analysis; the illustrative result is not an approval, an available rate, or evidence that the buyer has sufficient equity and liquidity.

How should monthly cash needs be tested?

Reconcile billing and collection timing with payroll, software renewals, tax obligations, and scheduled debt payments. An annual surplus can coexist with a seasonal cash shortage. Identify the lowest projected cash month and the supported funding source instead of assuming the annual coverage ratio addresses every liquidity need.

How should retention exposure be explained?

Describe the client population, concentration, service mix, contract status, relationship owner, and historical collections. Distinguish recorded departures from hypothetical downside. Show the effect on both revenue and contribution after identifying costs that can realistically change. A loss of fees and a loss of cash available for debt service are related but different measurements.

State the assumptions behind a scenario rather than labeling it a prediction. Identify whether clients rely on the seller for technical work or communications and whether introductions have occurred. The seller departure contingency guide helps test the staffing response if planned support becomes unavailable.

How should financing and consideration reconcile?

Show purchase price, transaction costs, working capital, lender funds, buyer funds, seller debt, and any other proposed sources and uses. Explain whether a payment occurs at closing or later. Separate business funding from the buyer’s personal reserves. The totals should reconcile and the terms should match the actual documents.

Current SBA change-of-ownership policy prohibits seller earnouts and places conditions on permitted buyer performance rebates. Seller debt used as qualifying equity must meet applicable full-term standby and subordination requirements. The offset rights guide explains why a contractual label does not resolve financing eligibility or the operation of a payment remedy.

When is formal financial diligence required?

Under the current SOP, covered Initial Acquisition and Expansion transactions with Business Purchase Price of $3 million or more require a Quality of Earnings report, subject to the policy’s defined calculation and exceptions. The price test is not simply the requested loan amount. Confirm the applicable price definition and complete documentation requirements with the lender.

A buyer’s findings memo organizes the review but does not replace a required independent report, valuation, or other lender evidence. Identify the author, scope, date, and limitations of each professional report. Preserve the distinction between an accountant’s completed work and a buyer’s summary of that work.

Which information should be shared cautiously?

IRS Publication 4557 discusses taxpayer-data safeguards, access, and service provider arrangements. The IRS Section 7216 information center addresses restrictions on certain tax return information uses and disclosures. Evaluate what can be shared, with whom, for what purpose, and under which applicable authorization or exception.

Start with aggregated evidence where it adequately supports the issue. Use controlled access for information that requires more detailed review. Avoid placing identifiable tax files in an unrestricted financing folder. A request for evidence should be answered with appropriate records and permissions, not with an assumption that every transaction participant can access everything.

How should unresolved items reach a decision?

List the open issue, responsible person, required evidence, and its effect on the proposed closing. Separate a condition that must be resolved before funding from an operating action planned later. Update the memo when the evidence changes rather than leaving a resolved finding in one attachment and an outdated risk statement in another.

The post-closing records guide describes the evidence that should survive the handover. A useful lender memo ends with a reconciled request and transparent conditions. It gives the credit team an organized basis for its decision while keeping responsibility for that decision with the lender.