02 Apr Using Add-Backs to Enhance your Valuation
An add-back is an expense that is added back to the profits of a business (most often earnings before interest, taxes, depreciation, and amortization, or EBITDA), to show the profitability and value when you take out expenses that will “go away.”
Add-backs play a critical role in adjusting the bottom line when analyzing the valuation of a company. A “legitimate” add back is an expense that is for owner benefit that would not continue after a transaction with a new buyer.
Some examples of legitimate add-backs are:
- Legal Fees
- Facility updating
- Personal expenses
- Adjustments to the owner’s compensation
One time instances where it would add back to EBIDTA:
- One time fees: litigation that has now been settled
- Something you wouldn’t close after a transaction
Things that we would not consider an add-back:
- Owners salary if you are going to continue on after selling your business – adjusting compensation to the market price
- Bad debt expense. For example, you’ve done a lot of work for a client and they didn’t pay you so you write it off, this expense is not considered an add back.
- Rationalizing Staff – Let’s say you paid someone for the year and it was a bad hire and you fired them, it would not be considered an add-back as it impacted your profit.
- “I rented a space that is too big for my business.” This is an expense you can adjust, but you can’t say in the year “we should have had a smaller office so we should add this back.”
If you’re acquiring a company read our add-backs blog post.
Think about add-backs to EDIBTA are for owner benefit that will not be there going forward, or one time expenses that hit your P&L that will not in the coming years. If you have questions about expenses you need to take a closer look at, we can help. Reach out at: info@revenuerocket.com
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