Understanding Adjusted EBITDA

Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA or ‘ee-bit-dah’) is a term we first encounter when we begin discussing selling our practice to a private equity (PE) firm. EBITDA is not the usual terminology or measure we use when evaluating the profitability of the practice as a manager or owner (we usually use net revenue or gross revenue minus your expenses). EBITDA is an accounting and investment term. Pronounce it correctly in meetings and your esteem moves up a rung or two with the money managers sitting at the table.

You should also be aware that EBITDA can be calculated in a number of different ways so the key question here is how is being calculated by the person you are dealing with (selling to). PE firms in eye care all calculate adjusted EBITDA (EBITDA with the necessary changes (see below) in much the same way.

In the big picture, adjusting EBITDA means making your practice financials look as if they were owned by the buyer. “What would this practice look like if it was ours?” might be the question they are asking when adjusting EBITDA.  This translates into a few changes to your financials:

  1. Remove any non-cash items from the expense category. This includes amortization and depreciation. Simply take these two numbers out of your expenses and add them to your profit line. Voila! You have adjusted your EBITDA.
  2. Remove any personal items from your expenses. This might include a personal telephone (for you and your family members), an automobile, meals and entertainment or any personal item that will not occur again after the sale goes through.
  3. Family Members. Whether you have family members on payroll who do very little with the practice or family members that are key players in the practice, now is the time to remove them (they won’t leave until the sale). Most PE firms frown on family working in the practices. In the case of family members who are just placeholders, remove their salaries from your expense category and add it to your profit line. In the case of your spouse who manages the practice, remove their salary from expenses, add it back to your profit line (net income) and then add $80,000 to your expenses for a new manager.
  4. You will need to pay back any outstanding loans prior to the sale. However, you are allowed to add back any interest expense incurred because of these loans.
  5. Any travel you incurred in the last twelve month on your P&L should be added back assuming it is personal in nature (it usually is).

You are almost there. You now have an adjusted profit and loss statement that more closely approximates what the buyer’s P&L would look like if they owned it.  It is not perfect and you are still not likely to coincide exactly with your offer, but you are significantly more aligned than you have been.

Multiply that adjusted EBITDA to get yourself an estimate (or better yet, let us do it for you).  Today (May, 2023), you can use a multiple of 6 or 7 and you will arrive at an estimate.