7 Add-Backs to Boost Your EBITDA
When you are ready to sell your business, you may have to adjust your bottom line to maximize your company’s selling value. Here’s everything you need to know about boosting your EBITDA and ultimately, getting the maximum value out of the company you’ve worked hard to build.
What is EBITDA?
For business owners considering or preparing to sell, it’s important to know that your business will be valued upon earnings before interest, taxes depreciation, and amortization, or in other words, EBITDA.
Gaining a full understanding of EBITDA is crucial to buyers, as it gives a full picture of a company’s financial health and ability to generate cash. Since EBITDA removes the cost of debt capital by adding back interest and taxes to earnings, it is used to analyze profitability.
Why Does EBITDA Matter When Selling Your Business?
While public companies want to maximize their reported earnings, private company owners usually focus on minimizing profits to lower taxes. Therefore, many S corporations or limited liability corporations (LLCs) may have understated profits because of private company expenses that impact their bottom line and reduce EBITDA.
Doing so doesn’t pose a problem as long as your accountant and the IRS agree that they are legitimate business expenses. However, when you’re preparing to sell your company, those private company expenses will actually lower your EBITDA and your company’s value unless you can demonstrate to potential buyers that the expenses will not transfer following a sale.
7 Ways to Boost Your EBITDA (And Company Value)
To present the true value of your company, it’s important to make the most of your EBITDA. That means working with an investment banker who will help you adjust your EBITDA by adding back expenses that will not be inherited by a new owner. However, there are certain conditions that apply when doing this the right way. Here are the seven most effective and common add-backs that can boost your EBITDA and company value:
1. Owner’s salary and compensation
This is usually the largest single add-back item. However, even if you’re retiring, someone will have to lead the company and be paid a fair salary. Therefore, salaries can’t be eliminated entirely. Many private company owners often take home more than a “market rate” salary and the bottom line should be adjusted to add back compensation in excess of the market rate, or what it would cost to hire a successor.
2. Salaries and bonuses paid to relatives
This only applies if they will not continue working for the company post-transaction. If they will be leaving after the transaction, this counts as an add-back.
3. Personal travel
Travel that is linked to business travel can count as an add-back.
4. Vehicles
If vehicles are not used primarily for business purposes, this counts as an add-back.
5. Life insurance premiums and other fringe benefits
Consider life insurance premiums or other benefits that are provided for you as the business owner or your family members.
6. Excess rent payments
Often times, business owners hold the company’s real estate in a separate entity. Sometimes that entity is sold along with the operating business; other times, the owner will retain the real estate. In the latter case, make sure the rent is consistent with market rates. If it’s not, at least some of the cost should be added back to the bottom line.
7. Non-recurring expenses
Non-recurring expenses that count as add-backs can include litigation costs, bad debt expenses, or one-time inventory write-downs. These should be excluded from your adjusted EBITDA. Accounting and auditing fees, however, are recurring items and should not be added back.
Making the Most of Your Bottom Line
Your investment banker will help you identify potential cost savings by determining legitimate add-backs. For example, elimination of your HR department by the acquirer will ultimately save the buyer money. However, this is not an add-back because the function still must be provided. Such savings would represent a synergy with the buyer, but not an increase in your adjusted EBITDA. There’s nothing wrong with managing your business to minimize taxes. However, when it comes time to sell, get adjusted to maximize company value!
Free Email Course: Selling Your Business with Confidence
Join us for a 12-week, step-by-step email course to help you determine if you’re ready to sell and how to make that transition a reality.