Getting the Debtor Book Ready for Sale

When a buyer looks at an owner-managed manufacturer, the debtor book is one of the first places they test. It shows whether customers pay, whether invoices are right first time and whether the business is in control of its cash. A tidy debtor book supports the price. A messy one invites the buyer to reduce it, hold money back or walk away. The work is best started a year or more before a sale.

What a buyer sees in the aged debt report

The aged debtor report is the starting point. A buyer will look at how much sits beyond terms, which customers are consistently late and how old the oldest items are. Very old balances are usually treated as worth nothing, whatever the ledger says.

Before a sale, go through the report line by line.

• Chase or write off. Debts that are collectable should be collected. Debts that will never be paid should be provided for or written off, with your accountant's agreement, so the book reflects reality.
• Clear unallocated cash and credits. Payments received but not matched to invoices, and credit notes sitting unapplied, make the ledger look worse than it is and raise questions about controls.
• Reconcile key accounts. Agree balances with your main customers so there is no argument about what is owed.

A buyer will often ask for aged debt reports at several month ends, not just the latest. A book that has been cleaned up for one date and allowed to drift the rest of the year is easy to spot.

Disputed invoices and credit notes

Disputes are the part of a debtor book that worries buyers most, because they often point to problems elsewhere: pricing errors, quality rejections, short deliveries or paperwork that does not match the purchase order.

Every disputed invoice should have a reason recorded and an owner working to close it. If the same customer disputes the same kind of invoice every month, the fix lies upstream, in how orders are entered, how prices are maintained or how non-conforming product is handled. Our root cause analysis guide applies just as well to a recurring invoicing fault as to a quality escape.

Look hard at credit notes too. A high volume of credits, or credits raised just after a period end, will draw questions about whether reported turnover was real.

Terms, concentration and retentions

A buyer will want to know what terms each customer is on and whether they actually pay to them. Agreed terms that differ from your standard terms should be written down. Informal arrangements, such as a large customer who has always been allowed an extra month, need to be either documented or brought back into line.

Customer concentration shows up clearly in the debtor book. If one customer accounts for a large share of the balance, the buyer will look at their payment history, their credit standing and what happens to your cash if they pay late.

Retentions need particular care. Where a customer holds back part of the price until acceptance, commissioning or the end of a warranty period, the buyer will want to see the contractual basis, the release dates and any history of retentions being withheld. Retentions that are overdue for release should be chased before the sale, not explained during it.

If any debts are funded through invoice finance, the buyer and their lawyers will need to see the facility terms, because the financier has rights over those debts and the facility will need to be settled or carried across at completion.

The creditor book matters as well

Buyers look at both sides. A business that has kept its cash position looking healthy by paying suppliers late will be found out quickly in diligence. Overdue creditors, particularly HMRC liabilities and key material suppliers, are often treated by buyers as debt-like items and deducted from the price.

Bring creditors back to agreed terms where you can, resolve disputed supplier invoices and make sure accruals are complete.

How working capital affects the price

Most share sales of owner-managed businesses are agreed on a cash-free, debt-free basis with an assumption that the business will be handed over with a normal level of working capital. There are two common ways of dealing with this, and your lawyers and accountants will explain which suits your deal.

• Completion accounts. Accounts are drawn up at the completion date and the price is adjusted up or down according to how actual working capital compares with an agreed target.
• Locked box. The price is fixed by reference to an earlier balance sheet, and the buyer is protected by restrictions on value leaving the business between that date and completion.

Under either route, the quality of the debtor book feeds directly into the money. Debts the buyer does not believe in will be excluded from working capital or provided against. The target itself is usually based on historic averages, so a debtor book that has been well run for a sustained period supports a fair target.

What you control is the condition of the ledger they are working from.

If you are planning a sale and want help getting the books into shape beforehand, that is part of our business exit and sale work. Get in touch.