I'm getting ready to list my small HVAC company and have a question about receivables. We have about $18k in unpaid invoices, some 30 days old, a few over 90. A couple are probably never getting paid. When a buyer looks at our books, how do they typically want to see this adjusted? Do I just write it off now, or do we handle it in the purchase agreement? I want to avoid scaring off buyers with a messy balance sheet.
Valuation
How to adjust for bad debt and unpaid customer invoices
Buyers will usually do their own aging analysis and apply a discount to the whole AR balance. You're better off cleaning up the obviously bad ones before listing. Write off the ones past 90 days that you know are dead. Keeps the conversation simpler.
Be careful writing off invoices that you might still collect on. Once you sell the business, the buyer often gets the right to collect AR as part of the deal. If you've written it off, you've essentially ggiven away any recovery. Better to isolate the bad debt, and negotiate a specific adjustment.
How much of that 18k is actually uncollectible? If it's only a couple grand, might not be worth overcomplicating. Buyers expect some level of bad debt in any service business.
Get an allowance for doubtful accounts on the books. That's the standard accounting way to handle it. You estimate a percentage based on history. Buyers will understand that language better than a random write-off right before sale.
I sold a plumbing biz two years ago. We had a similar situation. The buyer insisted on a holdback equal to the disputed invoices for 6 months. If we collected, we got the money. If not, they kept it. Worked out fine but delayed some of my cash.
Holdbacks are common. Just make sure you document which specific invoices are in dispute. Don't let them lump everything together.
If you're doing an asset sale, the AR is often excluded entirely. The seller keeps it and collects what they can. The buyer just buys tthe equipment, name, and customer list. Might be cleaner for you. Have you talked to a broker about deal structure?
That's a good point. Asset sale vs stock sale makes a big difference. In a stock sale the buyer inherits all the liabilities and the AR. In an asset sale you can cherry-pick what transfers. Most small business sales are asset sales for exactly this reason.
Unless the buyer wants the AR because they think they can collect better than you. Some buyers see it as an opportunity. But those are usually more sophisticated buyers.
Have you considered just sending those old invoicres to collections? Might recover something and also cleans up the narrative. "We pursued collection and recovered X" sounds better than "we wrote it off."
Collections agencies take a big cut and can damage customer relationships. If those customers are still active, might not be worth it. If they're one-offs, go ahead.
Also check your contracts. Some of those customers might have payment terms that allow you to charge interest. Probably not worth the effort for small amounts but it's leverage.
One thing nobody mentioned yet: your historical bad debt ratio. Buyers will look at the last 2-3 years. If this year is an outlier, they'll ask why. If it's consistent, they'll just bake it into the valuation. So don't try to hide it. Just present it clearly with a note
Consistency is key. If you suddenly write off a bunch of invoices right before sale, it looks like you're mani pulating earnings. Better to have a steady approach.
Or worse, it looks like you were running a sloppy operation. Which might make buyers wonder what else is sloppy.
At The end of the day, the buyer will discount the price for risk regardless of how you present it. The cleanest path is to have a clear AR aging report, a note about any doubtful accounts, and let the negotiation handle the rest. Don't overthink it.