Our accounting team capitalizes our internal software development costs to boost our balance sheet, but we worry a buyer's Quality of Earnings audit will reverse this and cut our EBITDA. How do we fix this on our runway?

Question

Tyler Smith · Accepted Answer

Capitalizing software development costs is a common way to inflate assets, but sophisticated buyers will scrutinize this practice during a Quality of Earnings audit. If they find you capitalized regular maintenance or minor feature updates instead of true R&D, they will reclassify those expenses. This reduces your EBITDA and directly shrinks your valuation multiple. To fix this on your exit runway, you need to establish a strict, auditable policy. Use your quarterly Rocks to clean up your financial reporting. Have your finance team audit the past two years of capitalized development hours. You must clearly separate core platform innovation from standard operational support and bug fixes. Leverage AI-driven project management tools to track developer time against specific product milestones. This creates an objective audit trail. When the buyer's Fact Finders analyze your books, they will see that every capitalized dollar is backed by documented, high-value intellectual property rather than creative accounting. Resolving this discrepancy now prevents a painful purchase price renegotiation later. It is much better to take a minor hit to your internal numbers today than to face a massive valuation haircut during the final stages of due diligence.