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Proof of cash

What is a Proof of Cash?

Leave a Comment / ETA, SMB /

Back to Learning Center Introduction In business acquisitions, it is paramount that you fully vet the business you are buying. Among the various tools available, the Proof of Cash stands out as one of the most important analysis to ensure the accuracy of financial records. For acquisition entrepreneurs, effectively understanding and using Proof of Cash is crucial. It’s not just a part of financial analysis but a key element in revealing the true performance of a potential business acquisition. In this article, we’ll explore what Proof of Cash is, its importance, and how it applies in financial due diligence. This guide is designed to provide acquisition entrepreneurs with insights into effectively using this essential tool in their financial evaluations. What is a Proof of Cash and Why is it Important? The Proof of Cash involves a detailed process of reconciling each item in a bank reconciliation from one accounting period to the next. This includes a thorough examination of cash receipts and disbursements. But why is this process so vital, especially for acquisition entrepreneurs? Accuracy of Financial Records: Proof of Cash ensures the accuracy of a company’s financial records. It highlights discrepancies between recorded transactions and actual cash movements, making it easier to identify errors or potential fraud. Beyond Bank Reconciliation: While similar to bank reconciliation, Proof of Cash offers a more in-depth analysis. It not only reconciles the beginning and ending balances but also scrutinizes all transactions within the period, providing a more comprehensive view of a company’s financial integrity. Essential for Unaudited Companies: For companies without formal audits, Proof of Cash is particularly crucial. It acts as a form of internal audit, ensuring that the financial statements presented are grounded in reality. Key in Financial Transactions: In mergers and acquisitions, the accuracy of financial statements is paramount. Proof of Cash provides assurance to potential buyers about the true financial health of a company they intend to acquire. In summary, Proof of Cash is a critical component in the evaluation of a company’s financial health. It provides a comprehensive and detailed analysis of a company’s financial transactions, ensuring that the financial statements are reflective of the actual financial state. Proof of Cash vs Bank Reconciliation While Proof of Cash and bank reconciliation might appear similar, they serve different purposes and offer varying levels of insight. Understanding the distinction between these two processes is crucial for anyone involved in financial analysis or due diligence. Bank Reconciliation: This process involves matching the balances in an entity’s accounting records to the corresponding information on a bank statement. Its primary purpose is to identify discrepancies and make adjustments to the financial records, ensuring they accurately reflect the transactions. Proof of Cash: This goes a step further. It’s not just about matching balances but analyzing each transaction that contributes to the change in cash balance. It involves a detailed examination of cash receipts and disbursements, cross-checking them with recorded transactions. This process reveals any inconsistencies or anomalies that might not be visible in a standard bank reconciliation. Key Differences: Depth of Analysis: Proof of Cash provides a more in-depth review of financial transactions compared to bank reconciliation. Scope: While bank reconciliations might catch simple discrepancies, Proof of Cash can uncover more complex issues like fraud or significant accounting errors. Application in Financial Due Diligence: In the context of M&A, Proof of Cash is a more robust tool for evaluating a company’s financial integrity. In essence, while bank reconciliation is a fundamental accounting practice, Proof of Cash is a more thorough and revealing process, critical for acquisition entrepreneurs who need a deeper understanding of a potential acquisition’s financial health. Key Components of a Proof of Cash Understanding the key components of Proof of Cash is essential so that it can be properly interpreted. Below are several critical elements that together provide a comprehensive view of a company’s cash transactions. Beginning and Ending Balances: The Proof of Cash starts with the cash balance at the beginning of the period and ends with the balance at the period’s close. These figures are typically derived from bank statements. Cash Receipts: This includes all cash inflows during the period. It involves verifying each deposit made into the company’s bank accounts, ensuring they match the recorded cash receipts in the financial statements. Cash Disbursements: Similar to cash receipts, this covers all cash outflows. It requires a detailed examination of checks issued, electronic funds transfers, and other forms of cash payments against the company’s records. Reconciliation: The core of Proof of Cash is reconciling these components. This means aligning the beginning balance, plus cash receipts, minus cash disbursements, to the ending balance. Discrepancies here can indicate errors or potential fraudulent activities. Analysis of Discrepancies: Any differences found during reconciliation need thorough investigation. This might involve tracing transactions, reviewing supporting documents, and understanding the nature of each discrepancy. By analyzing these components, Proof of Cash provides a detailed picture of a company’s cash handling accuracy. For acquisition entrepreneurs, this means gaining a clear understanding of the financial health and integrity of a potential acquisition. Conducting a Proof of Cash: Step-by-Step Guide For acquisition entrepreneurs and financial professionals, conducting a Proof of Cash is a systematic process that involves several important steps. Here’s a guide to help navigate through this process: 1. Gather Financial Documents: Begin by collecting all relevant financial documents, including bank statements, cash receipts, and cash disbursement records for the period under review. 2. Verify Beginning and Ending Balances: Ensure the beginning balance of the period matches the ending balance of the previous period. Confirm the ending balance with the bank statement at the close of the period. 3. Analyze Cash Receipts: Examine each deposit made into the company’s bank accounts. Cross-verify these deposits with the recorded cash receipts in the company’s accounting records. 4. Review Cash Disbursements: Scrutinize all cash outflows, including checks issued and electronic payments. Compare these disbursements against the company’s financial records for accuracy. 5. Reconcile Cash Transactions: Reconcile the beginning balance with the sum

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Asset Sale vs Stock Sale

Asset Sale vs Stock Sale: What Entrepreneurs Need to Know When Acquiring a Business

ETA, Tax /

When buying a business, one of the key decisions you’ll face is whether to structure the deal as an asset sale vs stock sale. This choice can significantly impact both the buyer and the seller, particularly in terms of taxes and liabilities.    Understanding the nuances of each option will help you make an informed decision. In this guide we’ll look at an asset sale vs stock sale, the benefits to the buyer and the seller, key considerations, and the tax implications. What Businesses Qualify? Firstly, it’s important to note that the sale of stock only applies in acquisitions related to C-Corps and Sub S-Corps. Partnerships, LLCs and sole proprietor business structures don’t own stock and therefore can’t use a stock sale deal. What Is An Asset Sale? An asset sale involves buying the company’s individual assets and liabilities, while the seller retains the original legal entity. This means the buyer gets assets like equipment, inventory, trademarks, and customer lists, but typically not the company’s cash and long-term debt obligations. Asset Sale Tax Implications For Sellers When a seller agrees to an asset sale over a stock sale, they often encounter a complex tax scenario. The nature of the assets being sold dictates the kind of tax rates applied. For intangible assets like goodwill, the tax rate is often the capital gains rate, which currently stands at 20% federally, plus local state tax rates, which differ. On the other hand, tangible or “hard” assets like machinery and buildings are typically subject to ordinary income tax rates. These rates vary based on the seller’s tax bracket, which can be significantly higher than capital gains rates. An added layer of complexity arises for C corporations. In such cases, the sellers face what is known as double taxation. Here’s how it works: Initially, the corporation pays taxes on the profit from selling its assets. Subsequently, when these proceeds are distributed to the shareholders, they are taxed again, this time as personal income. If the business is an S corporation that was previously a C corporation, and the asset sale occurs within a ten-year window known as the Built-In Gains (BIG) recognition period, there’s an additional tax implication. The S corporation might be subject to corporate-level taxes under Internal Revenue Service (IRS) Section 1374. This tax is imposed on the built-in gains that were present at the time the corporation converted from a C to an S corporation. If you’re weighing up an asset sale vs stock sale and this is starting to sound complicated, speak to a CPA that specializes in ETA services. Asset Sale Benefits For Buyers Buyers on the other hand, prefer asset sales because they can ‘step up’ the asset’s basis, leading to tax benefits. The buyer is able to allocate depreciation to assets that depreciate quicker, incurring a higher depreciation cost early on, which helps alleviate cash flow during the vulnerable early years following the acquisition. Another benefit of an asset sale for a buyer is less exposure to risk and liabilities. Because the buyer isn’t purchasing the legal entity, they usually don’t inherit the company’s past liabilities, claims or potential lawsuits. Asset Sale Considerations For Buyers Something to take into account when acquiring a business under an asset sale instead of a stock sale, is that it can be more difficult to transfer less tangible assets, such as patents, leases and intellectual property. What Is A Stock Sale? Now let’s look at the flip side of asset sale vs stock sale. In a stock sale, the buyer acquires the company’s stock, essentially taking over ownership of the business entity, including its assets and liabilities. This option is primarily available for corporations with transferable shares, like C and S corporations. Stock Sale Tax Implications For Sellers Sellers generally lean towards stock sales for a couple of significant reasons. Firstly, the financial benefit: in a stock sale, the money earned from selling the company’s shares is taxed at the capital gains rate. This rate is typically lower than the ordinary income tax rate, leading to potential tax savings.  For C corporations, a key advantage of a stock sale is avoiding corporate-level taxes. This means the proceeds from the sale bypass the initial layer of corporate taxation and are only taxed once as personal income to the shareholders. Another crucial aspect of stock sales that appeals to sellers is the reduced responsibility for future liabilities. Liabilities like product liability claims, contract disputes, employee-related lawsuits, pensions, and employee benefit plans often remain with the company and become the buyer’s responsibility. This transfer of liability can significantly reduce potential future risks for the seller.  As a buyer, you can structure the terms of the purchase agreement to alter this scenario by assigning liability back to the seller in some cases. Stock Sale Benefits For Buyers For buyers, a stock sale can be beneficial when acquiring a business that holds significant intellectual property or has crucial contracts in place.  When a business possesses a substantial number of copyrights, patents, or other intellectual property rights, a stock sale can be a better strategic choice. This is because, in a stock sale, the ownership of these intellectual properties remains with the corporation itself, not the individual owner. This continuity is crucial as intellectual property rights can be complex to transfer and may involve extensive legal processes if done outside the framework of a stock sale. If the target company has significant government or corporate contracts, particularly those that are difficult to transfer or reassign, a stock sale simplifies matters. It minimizes the risk of disruptions in these relationships, which might occur if contracts need to be renegotiated or reassigned in the case of an asset sale. Stock Sale Considerations For Buyers For buyers contemplating a stock sale over an asset sale, it’s essential to understand certain financial and risk-related implications. One of the primary financial considerations is the loss of the ‘step-up’ in basis for the assets acquired.  Unlike in an asset sale, where buyers

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Sell-side quality of earnings

Sell-Side Quality of Earnings Report and 6 Reasons to Get One

ETA, SMB /

When selling a small business, two crucial factors significantly impact the purchase price:

Earnings:
The amount of earnings your company generates is a key determinant, typically measured as Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA). A sell-side quality of earnings analysis presents an opportunity to enhance both the quantity and quality of these earnings.

EBITDA can be increased by identifying adjustments to your financials that a new buyer should not anticipate incurring. This includes one-time expenses or events, personal expenses that the owner ran through the business, or the normalization of recent changes to business operations.

When the buyer is performing due diligence they are going to be looking for adjustments that will favor them. However, they are not going to point out to you adjustments that will be in your favor it’s up to you to do that.

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Search Funds

A Guide to Search Funds In ETA

ETA, SMB /

If you’re an aspiring entrepreneur but don’t think a startup is right for you, a search fund could be your answer.

Entrepreneurship through acquisition (ETA) is a compelling pathway to realize your business ownership goals and own an established business. Search funds provide the financial vehicle to make that dream a reality.

In this article, we’ll provide an overview of search funds, contrast different models, how to start one, and shed light on the appeal, challenges, and trends surrounding them.

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