Often, when you hear about EBITDA multiples in M&A valuation, what’s really meant is adjusted EBITDA.

So what is adjusted EBITDA? Just like EBITDA itself is intended to give a clearer picture of financial performance by eliminating the effects of capital structure, deprecation policy, and tax, adjusted EBITDA adjusts standard EBITDA for non-recurring, irregular, or discretionary expenses, which are often called add backs, because they’re added back to EBITDA to increase earnings.

The idea is to provide the buyer with a clear picture of post-closing EBITDA by normalizingearnings.

What are common addbacks to arrive at adjusted EBITDA?

Non-recurring items like legal settlements and costs, certain consulting services

Above market rate owner compensation

Owner perks like compensation for non-working family members

non-business auto payments and expenses

non-business entertainment and travel expenses

non-business professional services

Note that there are also negative addbacks.

For instance, if the owner makes less than a new CEO would or if the owner is the business’s landlord and charges less for rent than FMV for tax reasons, those items will be subtracted from EBITDA to reflect normalized expenses for the post-closing business.