Adjusted EBITDA: what you can and cannot add back

The adjustment schedule is the most valuable document a seller prepares and the one most often left until somebody asks for it.

The reason is arithmetic. Every pound of adjusted profit is multiplied. An adjustment of £15,000 that the buyer's accountant removes does not cost you £15,000, it costs you £15,000 times the multiple, which on a small business is somewhere between £30,000 and £60,000. A handful of weak add-backs can move a price more than a week of negotiation.

The test

An add-back is legitimate when both of these are true:

1. The cost will genuinely not exist for the new owner, or is genuinely not going to recur.
2. You can evidence it.

Everything else is an argument you will lose, and losing it costs you more than the adjustment was worth, because a buyer who removes one add-back starts examining all of them.

What survives

Owner remuneration above a market rate

The largest adjustment in most small businesses, and the one that needs the most care about which measure you are using.

If you are quoting seller's discretionary earnings, the whole of the owner's salary, dividends taken in place of salary, pension contributions and benefits comes back, because a buyer who intends to work in the business receives all of it.

If you are quoting EBITDA, only the excess over a market rate for the role comes back, because a buyer installing a manager has to pay that manager. An owner drawing £110,000 for work a £55,000 manager could do produces a £55,000 add-back, not £110,000.

Evidence it with the payroll records, and evidence the market rate with something external: a recruitment advertisement for the equivalent role in your region, or a salary survey. "A manager would cost about £50,000" is an assertion. A printed advertisement is evidence.

Genuinely personal costs run through the business

The vehicle used mainly privately, personal travel, a family member on the payroll who does not work in the business, personal subscriptions and memberships, private medical insurance for the owner's family.

These are routine and buyers expect them. Evidence each one and be consistent: if the vehicle is 70 per cent personal, add back 70 per cent, not all of it.

Genuine one-off items

A tribunal claim defended and concluded. A rebrand. An office move. A failed product launch that has been discontinued. Professional fees on a transaction that did not proceed. Storm damage not covered by insurance.

Adjust in the year the cost fell rather than spreading it. And be honest with yourself about the pattern: a business with a different one-off every year for four years does not have one-offs, it has an unpredictable cost base, and a buyer will normalise rather than remove them.

Non-trading costs

A property owned by the company for the owner's benefit. An investment unrelated to the trade. A boat, and yes this does happen.

Costs of a related party arrangement that will end

If you own the premises personally and charge the company a rent above market, the excess is an add-back. If you charge nothing, the reverse applies and a market rent must be deducted, because the buyer will have to pay one.

Discontinued activities

A product line, site or service that has been closed. The losses it generated are removed, provided the closure is complete and can be shown to be.

What does not survive

A real operating cost with a different label

If the business needs the van, the van is not personal. If the software is used by the team, the licence is not discretionary. If the marketing generates the enquiries, the marketing budget is not an add-back.

This is the most common failure, and it is usually not dishonesty. It is an owner who has decided a cost is optional because they could imagine cutting it, which is a different claim entirely.

Owner's salary added back twice

Adding the full salary back and then applying an EBITDA multiple. This is the error that produces asking prices no buyer will engage with, and it is common enough that experienced buyers check for it before anything else.

Costs that recur under another name

Legal fees every year for a different dispute. Recruitment costs every year for a different role. Consultancy fees every year for a different project. The specifics change, the line does not.

Underinvestment

A business that has not replaced its equipment, redecorated, or renewed its systems for six years has higher profits than a business that has, and lower value. Buyers adjust for deferred capital expenditure in the opposite direction from an add-back, and a schedule that ignores it invites them to look harder.

Anything you cannot evidence

Whatever its merits. An adjustment without a document attached is a number you are asking a stranger to accept about a business they are about to buy from you.

Building the schedule

One row per adjustment, per year, with the evidence referenced.

| Year | Adjustment | Amount | Evidence | | --- | --- | --- | --- | | FY24 | Owner salary above market rate | £48,000 | Payroll; recruitment ad for equivalent role | | FY24 | Owner vehicle, 80 per cent private | £7,200 | Lease agreement; mileage log | | FY24 | Employment tribunal costs, concluded | £14,500 | Solicitor invoices; settlement agreement | | FY24 | Market rent on owner-occupied premises | (£26,000) | Local agent's appraisal | | FY24 | Net adjustment | £43,700 | |

Three practices that make a difference:

Include the deductions. A schedule with only additions reads as advocacy. One that deducts the manager's salary and the market rent reads as analysis, and the additions are trusted more as a result.

Show three years. A single adjusted year invites the question of what the other two looked like.

Attach the documents. Not "available on request". Attached, in the data room, indexed to the row.

Pre-empting the questions a buyer's accountant will ask

• Show me the payroll supporting the owner remuneration add-back.
• What is your basis for the market rate?
• This one-off appears in two of the three years. Explain.
• Your capital expenditure has averaged £4,000 a year on a £200,000 asset base. When was this equipment last replaced?
• The gross margin moved by four points in FY24. Why?
• Reconcile the management accounts to the filed accounts for FY23.

Every one of these is answerable. The difference between a seller who answers them in an afternoon and one who takes three weeks is not knowledge, it is preparation.

What this is worth

Take the worked example from our guide to how businesses are valued: statutory profit of £96,000 becomes adjusted EBITDA of £142,000 after four adjustments. At a multiple of three, those adjustments are worth £138,000 of price.

They are also the first thing a buyer will test, and the point at which a deal either gains credibility or loses it. Which is the argument for doing this work before the business goes to market, with your accountant, rather than under pressure in week five of due diligence.