EBITDA or the owner’s real cash: do not pay for the wrong number
EBITDA measures accounting profit, not the cash a buyer actually lives on. Between the two sit maintenance capex, the change in working capital, interest on the acquisition debt and tax: an EBITDA of 800,000 euros often leaves only 250,000 to 350,000 euros of free cash. Set your maximum price and the debt the deal can carry on that rebuilt cash figure, not on the EBITDA multiple.
EBITDA is the number everyone quotes, because it is quick to compute and easy to sell. The seller puts it at the top of the deal book, the adviser multiplies it by five or six, and the asking price drops out in two lines. The trouble? No buyer lives off EBITDA. You live off the cash that is genuinely left once you have paid tax, interest, the renewal of your assets, and the working capital that rebuilds itself every year. The gap between the two can be wide: it is not unusual for an EBITDA of 800,000 euros to leave the owner only 250,000 to 350,000 euros of free cash. Knowing how to build that bridge is knowing what you are really buying.
What EBITDA hides by construction
EBITDA is earnings before interest, taxes, depreciation and amortization. Three items stripped out, three very real cash outflows for the buyer. Machines wear out, vehicles too, IT even faster: depreciation simply records that wear, and sooner or later you will have to pay for the replacements. Interest? Real the moment the company carries debt, and real for you the moment you fund the acquisition with a loan. Tax on profit is paid in hard euros. EBITDA remains a useful way to compare two companies side by side. As a guide to what will end up in your pocket, it is poor.
EBITDA measures the ability to generate profit. The owner’s cash measures what is actually left, once everyone has been paid.
The bridge, line by line
Take a concrete case, the kind of company SMEs and startups often buy: an industrial business showing a normalized EBITDA of 800,000 euros on 5 million in revenue. Here is how you walk down to the cash the owner really takes home.
- Normalized EBITDA: 800,000 euros. This is already a restated figure, with the owner’s salary reset to a market rate and private spending stripped out.
- Less maintenance investment (replacement capex): an industrial business has to replace its machines. Book the real economic depreciation here, often 100,000 to 150,000 euros a year, not zero.
- Less the change in working capital: a growing business ties up cash in inventory and receivables. On 10 percent growth, that can swallow 60,000 to 100,000 euros a year.
- Less interest on the acquisition debt: fund 60 percent of the price at 5 percent and debt service easily takes 120,000 to 180,000 euros a year.
- Less tax on profit: after interest and depreciation, the real tax bill can run to 80,000 to 120,000 euros.
At the bottom of that walk, the 800,000 euro EBITDA has become free cash flow to the owner of roughly 250,000 to 350,000 euros. This is the figure, not EBITDA, against which you test whether the deal holds together: whether it covers debt service, pays you properly, and still leaves a safety margin for the leaner years.
The maintenance capex trap
This is the adjustment most often forgotten, and the most dangerous. Many sellers present a flattering EBITDA because they underinvested in the two or three years before going to market. I have seen buyers discover this only after closing: the machine fleet has aged, the truck has 380,000 kilometers on it, the IT system runs on a version that will soon fall out of support. All of this props up EBITDA in the short term. The bill has merely been deferred, and you are the one who will pay it. The defense: compare accounting depreciation over the last three years with the investment actually made. If the company depreciated 150,000 euros a year but invested only 40,000 euros, you inherit a renewal backlog of several hundred thousand euros that will land within eighteen months of taking over.
Working capital, the invisible cash
The second blind spot is working capital. A growing business has to finance larger inventory and higher receivables before it collects a euro. That cash is tied up and never shows in EBITDA. Check two things: the normal level of working capital you will need to keep funded, and the seasonality. A business whose cash need peaks in March at 600,000 euros and falls back to 200,000 euros in September may look comfortable on 31 December, but you are the one who has to fund the peak. Ask for monthly cash balances over two years, not just the year end snapshot, which is almost always the most flattering.
Why this gap changes the price you can pay
Value a business from its EBITDA alone, without building this bridge, and you pay for accounting profit while inheriting a much thinner real cash flow. The gap shows up at once in repayment capacity. Back to our example: a free cash flow of 300,000 euros can support an acquisition debt of roughly 1.2 to 1.5 million euros over seven years, no more. If the asking price implies 2.5 million of debt, the deal does not hold, whatever the EBITDA multiple on display. The owner’s cash is what ties the purchase price to your real ability to finance the deal and ride out the difficult years.
It is also a negotiating tool. When you arrive with an EBITDA to cash bridge built line by line, you no longer argue the multiple in the abstract: you point to exactly where the cash evaporates. The understated capex, the ignored working capital, the one off costs dressed up as recurring. A seller can defend their EBITDA. They have a far harder time defending a cash figure you have rebuilt item by item from their own accounts.
Rebuilding this bridge on a real deal, with the right adjustments for capex, working capital and tax, takes experience and a critical reading of the accounts. With the buyers we advise, it is almost always one of those three items that moves the price, rarely the multiple itself once the cash is on the table. That is the point of rigorous due diligence for SMEs and startups: it turns the headline EBITDA into real cash and tells you, with the numbers to back it, the highest price the deal can bear before it turns dangerous. This is the work I do at Mercova alongside buyers, and alongside the owners of SMEs and startups who want to acquire at the right price. Have your target analyzed before you put in an offer.
Key points
- EBITDA strips out very real cash outflows: replacement capex, interest, tax and the working capital a growing business ties up.
- An EBITDA of 800,000 euros often translates into 250,000 to 350,000 euros of free cash for the owner.
- Compare three years of accounting depreciation with the investment actually made: the gap is the capex backlog you inherit.
- Free cash of 300,000 euros supports roughly 1.2 to 1.5 million euros of acquisition debt over seven years, no more.
- Ask for monthly cash balances over two years; the year end snapshot is almost always the most flattering.
Frequently asked questions
Why does everyone still price deals on an EBITDA multiple if the number is misleading?
Because it is a convenient market convention: it makes deals easy to compare and shows the price in its best light. There is nothing wrong with using it as an entry point in the discussion. Just make sure your final decision rests on the rebuilt cash figure and on repayment capacity, not on the multiple.
How do I estimate maintenance capex when the seller provides no investment plan?
Start from the age and condition of the asset base: a list of machines, vehicles and systems with purchase dates and remaining useful life. Then cross reference accounting depreciation over the last three to five years with the investments actually paid out. Where the two diverge sharply, use the economic depreciation, not the seller’s figure.
Can I trust the normalized EBITDA shown in the deal book?
It is the seller’s opening position, to be verified line by line. The classic adjustments (owner salary, private expenses, costs labeled as exceptional) tend to run optimistic. Redo the normalizations yourself from the general ledger and bank statements, then build the cash bridge on that base.
When in the acquisition process should I build the EBITDA to cash bridge?
Do a rough first version before you sign a letter of intent, to anchor your ceiling price, then a detailed one during due diligence once you have full access to the accounts. If you wait until due diligence to think about it, you risk negotiating the whole process around a number you will later have to take apart.
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