Company valuation: why should EBITDA be restated and normalized?

Among the methods commonly used to value a company, the EBITDA multiple method is a readable and often appreciated method by many players.  

What is it, and why should EBITDA be restated and normalized? Let's take a look.  

What is EBITDA and what is its use in business valuation? 

Earnings Before Interest, Taxes, Depreciation and Amortization ( EBITDA ) is a financial indicator that measures the profitability of a company's operating processes.  

Its purpose is to determine the wealth creation generated by a company in order to compare it to other companies in the same field of activity, regardless of their location.  

Carried out once a year at the end of the accounting period, it can be obtained according to two different formulas called subtractive and additive: 

EBITDA calculation from sales (subtractive method)	EBITDA calculation from net income (additive method)
Sales excluding taxes - Purchases and external expenses - Personnel expenses - Other expenses = EBITDA	Net accounting income + Taxes + Personal expenses + Depreciation and provisions = EBITDA

Although EBITDA is often equated with EBITDA, these two terms do not mean exactly the same thing.  

What is EBITDA and what are the differences with EBITDA? 

Gross Operating Surplus (GOS) is a management indicator that corresponds to the balance generated by the company, excluding its financial management, investment policy and exceptional income and expenses.  

Thus, if we wish to discuss the differences between the terms EBITDA and EBITDA, although they are often confused, we must take into account the fact that EBITDA includes extraordinary income and expenses as well as employee profit-sharing, whereas they are excluded from EBITDA. 

Also, EBITDA takes into account operating provisions, whereas they are not included in EBITDA.  

EBITDA is therefore an attractive element since it offers the possibility of evaluating the real profitability of a company by highlighting its capacity to generate cash through its operations as well as through the results of its activity without taking into account exceptional events, its financing capacity or depreciation and investments. 

EBITDA is also interesting in the sense that it allows to compare the results of different companies or to take advantage of the performance of a company each year. Note that EBITDA will always be higher than Ebitda. 

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How to interpret an EBITDA? 

When the EBITDA of a company is positive, it is deduced that the company is profitable in terms of its activity.  

However, be careful not to conclude that it is necessarily profitable since, as a reminder, EBITDA does not take into account the company's financing and investment policies or even taxes.  

On the other hand, a negative EBITDA will inevitably mean that the company is not operationally profitable.  

Example of an EBITDA calculation  

Post	Amount (example)
Sales figures	2 000 000
Purchasing	-500 000
External expenses	-150 000
Other operating expenses	-40 000
Taxes	-20 000
Personnel costs	-300 000
Provisions and depreciation	-80 000
Operating result	910 000
Financial income	0
Financial expenses	-100 000
Financial result	-100 000
Current income before taxes	810 000
Extraordinary income	0
Extraordinary expenses	0
Extraordinary result	0
Employee participation	0
Income taxes	269 973
Net accounting income	540 027

Details of the EBITDA calculation 

Subtractive formula: 2 000 000 - 500 000 - 150 000 - 40 000 - 300 000 = 1 010 000 

Additive formula: 540 027 + 269 973 + 80 000 + 20 000 + 100 000 = 1 010 000  

At first glance, this method of valuing a companymay seem simple to implement by taking the EBITDA amount indicated in the company's last balance sheet and applying the coefficient heard over coffee at the last industry trade show. 

The difficulty is that in many companies the EBITDA needs to be restated to allow a precise analysis and a fair valuation of the company. A few classic examples to restate when valuing a company:  

• Shouldn't the salary of the manager's wife, who studied fine arts and draws 2 sketches a year for the company, be retired?  
• Is it reasonable to keep the last 5 years' trade receivables on the balance sheet without any depreciation?  
• Is it normal for the company to rent premises to the manager's SCI at a cost 20% higher than the market? 

Why restate and normalize EBITDA in a business valuation? 

Depending on the context and the activity, different methods can be used to value a company.  

In order to establish a financial valuation of the company that is as close as possible to the economic reality, certain advantages can be obtained by taking into account the restatements of certain financial elements: 

• Smooth out non-structural or multi-year expenses; 
• correcting non-recurring financial items ; 
• adjust certain expenses to a market or customary level. 

Thus, before considering an effective valuation of the company, it is advisable to have a normative vision of the EBITDA.  

In order to get to know them, it will undoubtedly be necessary to study all the items that do not have a classic economic value, as well as each event that has had a positive or negative impact on the result.  

As EBITDA is an indicator of operating cash flow, normalizing it and presenting results that are as high as possible can only enhance the value of the company.  

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Company valuation via a multiple of EBITDA, what should be restated? 

In the context of a company valuationIn the context of a valuation of a company, the restatements that we are going to mention are the most commonly used and this list is not exhaustive.  

• inventories, inventoried production and work in progress ; 
• real estate rents ; 
• salaries, comfort fees, participation, tax credits ; 
• depreciation and leases ; 
• employee participation ; 
• reversals, provisions and extraordinary ; 
• inventories; 
• IFC (End of Career Compensation); 
• real estate and assets not required for operations ; 
• WCR, debts, receivables and off-balance sheet items ; 
• trade receivables ; 
• treasury ; 
• leasing of equipment at prices above or below fair market value; 
• start-up costs ; 
• lawsuits, arbitrations, insurance claim recoveries and ad hoc litigation; 
• repairs and maintenance ; 
• inventories ; 
• etc. 

Note that exceptional events related to the Covid-19 crisis can be added to this list.  

As the latter has had an impact on a number of companies, particularly in the case of items considered to be one-off or exceptional, unrecognized income or expenses can be neutralized within the limits of reasonableness and acceptability.  

These will include: 

• deferred or lost revenue ; 
• expenses to implement telework ; 
• employee absence or departure expenses ; 
• re-employment costs ; 
• etc.  

In such a context and in order to be able to estimate a correctly argued valuation, each detail must be scrupulously studied.

You will have understood that in order to increase the value of an EBITDA, certain perfectly legitimate operations can be applied.  

The objective of these adjustments is to propose a normalized EBITDA, which allows a real analysis of the company's value and profitability. 

At the time of each valuation carried out by XVAL consultants, a company valuation report is submitted detailing all the adjustments made for each valuation method. 

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