How EBITDA affects your valuation

Two companies do €2 million in revenue. One sells for €1.4 million, the other for €4.2 million. Nothing in the revenue line explains the difference. Most of it is sitting inside EBITDA — in what has been counted, what has been left out, and what a buyer will refuse to accept.

#What EBITDA is actually measuring

Earnings before interest, tax, depreciation and amortisation is an attempt to answer one question: what does this business earn from operating, before anyone's financing choices and accounting choices get involved?

Interest is stripped because it reflects how the current owner financed the business, not how a buyer will. Tax is stripped because it depends on structure and jurisdiction. Depreciation and amortisation are stripped because they are accounting allocations, not payments.

#Why the multiple attaches to EBITDA and not revenue

A revenue multiple assumes margin. An EBITDA multiple measures it.

Company A

€2.0M

revenue, 7% EBITDA margin

Company B

€2.0M

revenue, 21% EBITDA margin

Value gap

3×

same multiple, same revenue

At a 5× EBITDA multiple, Company A is worth €700,000 and Company B is worth €2.1 million. Identical top line. The entire difference is margin, and margin is what EBITDA exposes.

#The adjustments that move the number

This is where valuations are actually won and lost. Normalisation means restating EBITDA as it would look under a new owner.

#Legitimate add-backs

• Owner compensation above market rate. If you pay yourself more than a hired manager would cost, the excess comes back.
• Genuine one-offs. A legal settlement, a failed product launch, a relocation. Once, not annually.
• Non-operating costs. The car nobody drives for the business, the property held for personal reasons.
• Related-party rent above market. If the building is yours and you charge above market, the difference is not an operating cost.

#Add-backs a buyer will reject

• Your full salary. You still did work; someone must be paid to do it.
• "One-off" costs that appear three years running. They are operating costs with an optimistic label.
• Growth investment you would have made anyway. Marketing is not an add-back because you would like it to be.
• Deferred maintenance. Not spending is not earning.

#Where EBITDA misleads

EBITDA ignores three things that determine whether a business is actually worth owning.

Capital expenditure. A business that must replace €300,000 of equipment every four years is not comparable to one that does not, even at identical EBITDA. Depreciation was stripped out; the spending is real.

Working capital. Growth consumes cash. A business adding €400,000 of stock and receivables to fund growth reports strong EBITDA while its bank balance falls.

Customer concentration. EBITDA does not care whether it comes from four hundred customers or one. Buyers care enormously.

EBITDA tells you what a business earns. It tells you almost nothing about what it will still be earning after you own it.

#What to do before you show anyone a number

• Restate owner compensation at a genuine market rate, and be able to defend the figure
• List every add-back with the evidence for it, before someone asks
• Show three years, not one — a single strong year invites suspicion
• Put capital expenditure next to EBITDA so the gap is visible on your terms
• Know your customer concentration figure before a buyer calculates it for you