The BizBuySell Small Business Community

  • Get Expert Advice

  •  • Find Local Service Professionals

  •  • Share Your Experiences

Ebitda = CF ?

I am seeing a lot more ads/summaries quoting both Ebitda and Cash Flow. The problem is that they are using the same amount for both. I'm not a CPA (jump in here Julie) but it is my understanding they cannot be interchanged. Do brokers not realize this throws up an instant red flag as to the credibility of the listing and the rest of the numbers. What purpose does this serve?

No User Photo

Answer This Question

max 5000 characters

Web Reference (optional)

e.g., "www.mywebsite.com"

Review Community Guidelines

Help keep our Community clean and on topic. The BizBuySell Community is a place where you can discuss your questions, concerns and knowledge with others you can trust. It is not OK to use this forum to solicit others for personal or financial gain, or to rant about personal issues. It's all in the guidelines.

Submit Your Answer
Answers (6)
No User Photo
The BAF Group LLC
MD

Joe, I am going through this process now, and it hit me that there potentially a better way to explain this, than was previously stated. And remember that I am a Business Broker and not a CPA, so this is more common sense (I hope) than a product of GAAP approved practice.

Part of the diffculty is knowing that Cash Flow, as a label in the way it is being used here, is a misnomer. The more correct term should be SDC, or Seller's Discretionary Cash. And this applies to small business, rather than large corporations. Keep in mind that the average small business Owner, to some degree or another, uses his (or her) company as an extension of his checkbook. A major reason for this, they claim is to reduce Tax Liability. That means that there are far more potential "adjustments" or "add-backs" to EBITDA than the large corporation might experience. (You don't normally find a major, public company CEO using company money for personal gain, unless you are the CEO of Tyco and are desperate to buy a $7,000 shower curtain...but I digress...)

For small businesses, SDC would include EBITDA, in many cases plus any additional one-time expenses. If, for example, the Seller put up walls in the office and wrote it off at once, reather than depreciating it, that might be added back. It is a one-time expense that you, as the Buyer would not need to spend money on, in successive years. If a restaurant Seller is taking home $100 a week in "personal use" goods, a Seller, his Broker or his Accountant might also want to add that back. It is legitimate, but how do you prove it?

Another example of a legitimate adjustment is with a manufacturer I once represented. I questioned the amount and distribution of Salaries. He said his grandchildren were on the payroll. I wanted to know if they planned to stay with the company, or whether they needed to be replaced; I asked what roll they played and he said, "Just that; they play." They were 5 and 7 years old, and this was his way of funding their college plans. Those amounts were legitimately adusted by adding them back into the EBITDA. I have no idea whether this was a sound Tax strategy on his part, but it was what he wanted to do. This is where the "D" or "Discretionary" part of the SDC comes in: It is up to the Small Business Owner's Discretion, as to how some of these funds are spent. In another situation, I sold a very large Deli, and the Deli's son was earning $75,000 per year - to make corned beef sandwiches! He was not managing anything. At that time, I know the Seller could have replaced his son with a $6 per hour worker, but that was his discretionary decision.

The problem with some of this is that some Sellers, Accountants and (yes,) Brokers use too much "discretion". That is why I said in my prior comments that SDC or "Cash Flow", as it is used in this environment, needs to be used carefully, and only as a barometer - not as gospel! If you are given a Cash Flow or SDC number, ask for a detailed explanation of the adjustments. You can usually see what is rational and what may be bogus. And even if it is rational, just like the example above with "personal use", is it traceable?

I hope this is clearer.

Jan 25, 2011
No User Photo

Don and BaC, thanks for the responses. I already knew and agree that there are different means to calculate each. I think that each has a place in the market and would never use it alone in lieu of thorough DD. I don't like that I am seeing more brokers posting both in the same ad when for all intents and purposes (other than Mike's scenario below) they are never the same. Don has it right in that EBITDA is more of a generally accepted metric for comparing similar larger businesses but not the mid -low market offerings that most buyers are looking for. BaC, you make a great point in asking right up front HOW are you calculating whatever term you are using whether it be EB, CF or SDE. I think that the majority of buyers are thinking of, and using, CF as the determining factor to investigate the business any further. Thanks

Jan 24, 2011
Buy-a- Company

Joe,

You are right, technically. But many pros use (misuse) the terms interchangeably. In practical use, they are subjective; subject to the meaning intended by the user, and the interpretation of the reviewer.

So, my answer is to just accept that the terms may not be used universally the same by all users, or in a textbook definition manner, and to always ask the user to clarify how THEY are defining the terms.

I have invested in many companies, and dealt with VC people, angels, private equity, entrepreneurs, etc., and can say that I'm not sure any 2 people have used the term "Cash Flow" in the same manner. EBITDA is easier to define, because the definition is explicit in the name. But most use "Cash Flow" interchangeably with EBITDA. When you hear someone say "Cash Flow", it seldom means the textbook definition. So, always ask, "How are you defining Cash Flow?"

The most important question here is, "What are you adding back in or subtracting out to get to that number?" That's all that matters, not whether the person used the term properly, because it varies.

Sorry for the ramble. Just realize "Cash Flow" is a subjective term, and make sure you and the user understand what is meant, so there are no misunderstandings.

Usually, colloquially, Cash Flow = EBITDA + owner's compensation + nonrecurring items + superfluous expenses + other fringe benefits + other items that the buyer may not have or need as, etc., etc. In this regard, cash flow is not meant to be the GAAP definition (bottom number on cash flow statement), but rather "seller's discretionary cash flow".

Jan 19, 2011
No User Photo
The BAF Group LLC
MD

I believe the difference is between small businesses and larger entities. Playing those kinds of games with small business is more difficult to do. But either way, the essential quality is that it evens out the playing surface. No single measure will capture all you need to know, whether or not it is GAAP approved. Cash Flow or EBITDA - either one - provides a barometer of business performance, which should allow you to determine whether it is worth looking into further. It should not throw up a "red flag", but simply tell you whether it is worth your time to investigate to a finer degree. But there is a lot of detective work yet to do, once you get past those measures. That would be like saying, "I will look at the GAAP approved numbers, and forget any legal and marketing considerations." The business must be studied in it entirety, but you have to start somewhere.

Jan 19, 2011
No User Photo

Mike, thanks for the reply. I was looking for another explanation to my question unless the answer is contained in the last sentence of this article. This is from an accounting site:

Another EBIT measure is EBITDA, which is Earnings Before Interest, Taxes, Depreciation and Amortization. EBITDA can be used to analyze the profitability between companies and industries because it eliminates the effects of financing and accounting decisions. However, this is a NOT a GAAP (Generally Accepted Accounting Principles) measure in that it allows a greater amount of discretion in what is and is not included in the calculation. This also allows the company to change the terms of its calculation from one reporting period to the next.

A common misconception is that EBITDA represents cash earnings. EBITDA is a good metric to evaluate profitability, but not cash flow. Consequently, EBITDA is often used as an accounting gimmick to dress up a company's earnings. It is key that investors also focus on other performance measures to make sure the company is not trying to hide something with EBITDA.

Jan 19, 2011
No User Photo

Joe,
To keep it simple, sometimes the owner receives no benefit, making them (basically) the same.

Jan 19, 2011

Start a Discussion