Most private equity firms value founder-led companies in the lower middle market as a multiple of normalized EBITDA. Understanding both parts of that equation helps founders prepare and evaluate offers with confidence.
Start with EBITDA
EBITDA is earnings before interest, taxes, depreciation and amortization. It approximates the cash profit the business generates from operations, independent of how it is financed or taxed.
Normalize it with add-backs
Normalized (or adjusted) EBITDA removes expenses that a new owner would not continue to incur, and adjusts for items that are not part of ongoing operations. Common examples:
- Owner compensation above or below a market salary for the role
- Personal expenses run through the business
- One-time legal, consulting or recruiting costs
- Above- or below-market rent paid to a related party
Every add-back needs documentation. Unsupported add-backs are usually challenged in diligence and can reduce the final price.
Apply a multiple
The multiple reflects risk and growth. Two companies with the same EBITDA can receive very different valuations. Factors that typically increase a multiple:
- Recurring or contracted revenue
- Consistent growth over several years
- Low customer or payer concentration
- A management team that does not depend on the founder
- Clear opportunities to grow through new services, locations or acquisitions
From enterprise value to what you receive
The valuation is usually an enterprise value. What the founder receives depends on debt paid off at closing, working capital adjustments, transaction costs, any equity rolled over and the structure of payments.
Want a practical walkthrough? Read our guide on how to calculate EBITDA, or talk to our team about your business.