When sell a business, attention quickly turns to the valuation. Entrepreneurs hear that comparable businesses are selling for, say, five or six times EBITDA, and they start doing the math right away.
Still, one of the most important valuation discussions often begins even before the multiple is brought up: which EBITDA are we actually talking about?
The EBITDA reported in the financial statements is not necessarily the EBITDA that a buyer uses as a starting point.
Same company, different EBITDA
In the process of selling a family business, profitability seemed clear at first glance. Upon closer analysis, however, the reported EBITDA was found to include various items that, according to the entrepreneur, were not representative of future operations.
For example, there were incidental consulting fees, and the business had incurred one-time costs related to a change within the organization. The entrepreneur felt it made sense to adjust these items, which resulted in a higher, normalized EBITDA.
The potential buyer saw things differently. He accepted some of the adjustments but also noted that the controlling shareholder was performing various tasks himself. After an acquisition, it might be necessary to hire someone to handle those tasks. The buyer therefore wanted to factor in an additional cost item.
Both parties looked at the same historical figures but arrived at different normalized EBITDA figures.
A €200,000 deal could be worth €1.2 million
The significance of this becomes clear with a simple calculation example. Suppose the buyer and seller agree on a valuation of six times EBITDA. If they then disagree by €200,000 on the normalized EBITDA, that disagreement potentially represents €1.2 million in enterprise value.
Entrepreneurs therefore sometimes focus too much on the multiple. Negotiating a multiple of 5.5 or 6 times EBITDA is visible and tangible. But the rationale behind the figure to which that multiple is applied can have at least as much impact on the final valuation.
Not every correction is a normalization
Furthermore, costs should not automatically be adjusted simply because they are unusual or undesirable. The relevant question is whether an item is a structural part of business operations under a new owner.
A demonstrably one-time expense is generally easier to explain than costs that recur virtually every year. Conversely, omitted costs must also be taken into account. For example, if a director and major shareholder (DGA) routinely performs commercial or operational work for compensation that is not in line with market rates, a buyer will view this critically.
A good normalization analysis therefore works both ways.
Start before the buyer does
An analysis of normalized EBITDA is therefore an essential part of proper preparation for a sale process. By establishing the bridge from reported to normalized EBITDA in advance, potential points of discussion become apparent early on. In doing so, it is important to assess each adjustment individually and, where possible, to substantiate it with facts.
This does not prevent a buyer from conducting their own analysis during the due diligence process. It does, however, ensure that the basic assumptions are clear from the outset and that any differences can be discussed in detail.
When valuing a company, the multiple often receives the most attention. However, De ondernemingswaarde s are just as much determined by the earnings to which that multiple is applied. A well-substantiated normalized EBITDA is therefore not just a financial metric, but an important part of preparing for a sale process.
