Preparing Normalised EBITDA financials is a process undertaken in preparation of a business sale to gain a better understanding of post sale cash flows. This is done by excluding abnormal, non-recurring and one-off events and adding back costs which would be incurred in a “business as usual”. Items to be “normalised” or “adjusted” can often be contentious and a conservative approach is recommended. Companies which have a long list of seemingly questionable normalisations will be adversely judged to be boosting the bottom line and business value rather than providing clarity of ongoing expenses. Some of the most common adjustments include:
These are expenses incurred which would not normally affect the profitability of a business each year. This could include insurance pay-outs, restructuring costs, consulting fees, corporate overheads, moving expenses, loses from discontinued operations or even an unusual bad debt or legal costs.
Owners Personal Expenses
Personal insurance policies (key man/income protection), discretionary bonuses, superannuation payments in excess of statutory requirements and unusual travel expenses. Provision of a car or car allowance above typical market practices and seen to be excessive, can also be normalised.
Normalised EBITDA and Excessive Salaries
Similar to the owners personal expenses, some owners provide family members with compensation which is in excess of what they would pay someone else to do the same job. If their salary or involvement with the company is to change post sale, salary costs must be normalised. It is important that all employee entitlements accrued and due to this employee, even if seen to be excessive, are paid to the employee should they terminate their employment on completion of the business sale.
Sponsorships & Charity Contributions
Where donations are made to charities or unusual sponsorships are provided to say local sporting teams, these should also be addressed when preparing normalised EBITDA statements. However where these expenses are seen as effective marketing investment and their removal or reduction will adversely impact the performance of the business, they are to be left as is.
Leases on property or equipment need to be at market rates particularly where leased or rented from related parties. The related parties could be the owners superfund or a business affiliated to the owners. Normalising rent and lease costs provide a true cost to the business as a standalone entity.
In instances where owners have removed their salary or that of a family member, costs for a person required for that role are to be “added back” to normalise employee costs. Where owners rely on dividend income and are paid a non-market related salary, an adequate salary add-back must be provided. Where sub-market rates are paid for rentals or leases, the true cost needs to be added back to reflect real future costs.
All Normalised EBITDA calculations including add-backs should be fully disclosed and transparent. They should be easy to understand, reasonable, sensible and defendable ensuring transaction integrity is not questioned.