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How to handle undocumented income in a business sale?

I'm not really sure how to approach this. If a business has undocumented income, but it is significant to the point where it would affect the sale price, how is it to be included in the finances and negotiation?

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Answers (7)
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CME Appraisals, LLC
Business and Certified Machinery and Equipment Appraisals
Charleston County, SC
Premium Broker

The short answer is if you can't document it, you can't pay for it. Sellers who "hide" cash have the difficulty of documenting that cash. If they did not pay income tax or, some other circumstances exist, they are not in a position to get paid twice on the unreported income. Ask yourself, why did they not report the income? What can they document or what will they support/document? How solid is the business without the reported income?

Good Luck,
S Simmons/CBB, CMEA, SBA
South Carolina

Jul 8, 2009
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Unreported revenue is definately saleable. It just depends if you have the right buyer who doesn't have to go to a bank for a loan. The reality is that most bars and restaurants that are "mom and pop" establishments have some sort of "cash" income. Convenience stores, tanning salons and, well, any business that does a lot of cash transactions will do the same.
Did you ever see the movie "Back to School" with Rodney Dangerfield ? In one scene a business professor tells the class how a business is started and Rodney, a successful businessman who goes back to college, gives the professor and the rest of the class a lesson in reality.
Before I bought my place a few years ago, I reviewed businesses for sale that were fronts for gaming machine rooms, a beer distibutor that was running numbers-- no, not poker machines, good old fashioned number running, a convenience store that was selling cigarettes illegally--- I even saw a business that showed zero sales!
Cash is still King and will be for a long time. It is the great equalizer that allows Joe Schmoe an opportunity to compete with big corporations and wealthy people who continue to get richer because any franchise worth a damn says you have to be worth millions of dollars and have 500k in liquid assets.
ignoring cash in industries where it is the norm is (and I really don't mean to sound like a jerk) naive.

Jul 1, 2009
Janelle Peralt
JP Business Brokers
Owner/Broker
Kerr County, TX

Typically unreported revenue is not saleable. If the seller is confident about it, and you are also comfortable, you can structure the sale with a buyout. The purchase price is dictated by reported income. This will make the lender happy as well. You add a clause to the agreement that if the business performs before than the reported numbers you, as the buyer, will pay the seller a percentage of that revenue/profit. Brokers refer to this as an "earnout". They are very popular in situations where the buyer is confident that the business projections are on a strong uptrend. It could also be made to work in this situation.
Please let me know if you have more questions.

Jul 1, 2009
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As far as financing goes, forget it. banks deal in strictly black and white or in our cases, black and red. If you are self financing (home equity, 401k, cash, etc., then you may want to take a chance and make an offer. Please keep in mind that this could be an advantage for you. The seller will have a hard time selling this business if no one can get financed for it. make a lowball offer and be prepared to walk away if it isn't a good deal.
if the seller is seller financing it then you should have a good feeling that the place is doing what he said it does because nobody wants to have their busines thrown back into their lap.

Jul 1, 2009
Gerald Kong
Trinity Transaction Advisory, LLC
TX
Premium Broker

A.K., even if the buyer and seller both agree the undocumented sales are indeed real, you will not get any funding on it from a 3rd party lending source. Even if you value it at a discount, as one respondent suggested below, you still cannot get it funded by a lender. We have a plausible solution that we have incorporated in many of the businesses we have sold. There's not sufficient time ro space to describe the rountine here. You may click the web reference and contact us, ask for Gerald, to describe. Good luck!

Jul 1, 2009
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BizMax Business Brokers
FL

If by "finances" you mean SBA/Bank financing then you cannot include it. Period. For "valuing" the business you will find most brokers, good and bad, will include it (in respectful disagreement with others' answers). Whether a buyer will pay for it, even if discounted, is dependent upon how reliable the "records" are and how far the seller is willing to go to allow a buyer to "prove" it. Both parties must be aware of the pitfalls to avoid in selling or buying undocumented income.

Jul 1, 2009
Andrew Cagnetta
Transworld Business Brokers, LLC.
FL
Premium Broker

Very touchy subject. I would tell you that most business brokers and CPA's would ignore the income and value the business without it. But the reality is, it is there, and buyers and sellers have valued it in the past. The value depends on the ability to prove it's existence. I have seen very good "documentation" and have seen buyers value the income. If you are the buyer, beware and value it at a discount. If you are the seller, start documenting the income from here on in. As a business is valued on future income and even a few months of newly documented earnings can add value.

Mar 18, 2009