EBITDA (or Seller Discretionary Earnings)
Enter profit of the business as either EBITDA or Seller Discretionary Earnings. See Inputs and Income statement for general instructions.
EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. In its simple form it equals Net Income, plus interest, taxes, depreciation and amortization. Another way to describe EBITDA is, it is the amount of cash available for debt service, reinvestment, taxes and dividends. Yet another way of looking at EBITDA is, it is equal to sales minus all business expenses except for interest, taxes, depreciation, amortization, and non-reoccurring expenses. See Profit for EBITDA definition.
EBITDA is the most important parameter in valuation. However, business value cannot be determined simply by knowing EBITDA. Value of a business depends on many more parameters that affect its cash flow and its future value. See BVX Valuation Approach.
Most businesses require re-casting of their income statement to calculate true EBITDA. One should seek the help of transaction experts (like business brokers, M&A Intermediaries, Investment bankers), financial advisors, valuation specialists or other professional advisors to determine true EBITDA. Some of the adjustments in calculating true EBITDA are non-reoccurring expenses, non-reoccurring revenues, non-cash expenses, non-cash income, rent adjustment, salary adjustments, certain accounting adjustments, investment income, etc.
BVX uses EBITDA as the profit measure because it is a "more reliable" measure of cash profits. See Profits for more explanation.
- All parties to the transaction (buyer, seller, lenders, and other investors) should be comfortable with the estimated EBITDA of the business.
- EBITDA should be calculated using accrual system of accounting. Cash system of accounting generally does not provide true EBITDA.
- EBITDA entered here is only used for one purpose … to calculate the . BVX uses the Final Adj. EBITDA as EBITDA for all its valuation and for its reports. The price multiples in the valuation are based on Final Adj. EBITDA, not on EBITDA entered in this cell.
- Future EBITDA is calculated per input in Future Growth, Cap Ex and EBITDA. Future EBITDA can also be specified using Advanced Features: EBITDA
- Negative EBITDA entry is not permitted. However, see Start-ups and Turnarounds for handling negative EBITDA.
- EBITDA should be calculated after deducting all expenses of the business including fair compensation to the owner/manager, and fair market rent for the property used in the business. These two situations are further explained below.
Real Estate (RE):a) If the business rents the RE, from a third party or from a related party, calculate EBITDA after deducting the fair market rent expense. EBITDA should
be adjusted for difference between actual rent and fair market rent. In this situation enter zero in Less Rent if not deducted,
b) If the Business owns the RE, and hence does not pay any rent, enter EBITDA of the business before deducting rent (which should be zero because the
business owns the RE), and then later enter the fair market rent for the RE in Less Rent if not deducted. This will reduce the Final Adj. EBITDA as if the
business rented the RE. This approach will allow the user to segregate the real estate value from the business value. Segregating business value and real estate
value is a good practice. Total value of the business will then be the sum of
i) its value without RE, and
ii) the value of the RE.
Segregating RE value from the business value would generally result into higher total value.
Discretionary Cash Flow:
For small businesses Discretionary Cash Flow to the owner is often used as a measure of profit instead of EBITDA. The primary difference between Discretionary Cash Flow and EBITDA is owner compensation and related expenses. The user can enter Discretionary Cash Flow in the EBITDA cell. In this case, user must enter fair owner compensation and related expenses in Less additional Salaries/Expenses.
BVX flags the user if profit margin is too low. The Final Adj. EBITDA cell changes its color (to magenta) if its value is less than 2%, but BVX will still function. However, such low margin may not be sufficient to satisfy the cash flow needs of the business (which is determined by growth, balance sheet, and capital expenditures). In this situation, generally there is not enough cash to satisfy buyer's return on investment and hence BVX will come up with No Solution.