If you want to confuse someone, just use an acronym they are not familiar with. In my conversations with owners of small and rapidly growing agencies, I have found that EBITDA is a term that is mysterious, and even when it is not, does not seem to hold much importance.
But it should.
As agency owners, we are all aware that as we build income in our business we also are building value. For most of us, tracking that value is something we like to do because eventually, due to retirement or other reasons, we know we will want to sell.
Generally, small agency owners think of the value of their agency in terms of a multiple of revenue or income. This is a handy shortcut but really doesn’t address what any business, even an agency, is worth. This is true because some agencies are more efficient, and therefore more profitable, than others are.
So, buyers of agencies want to know what your profitability or earnings are, and they use a multiple of that number rather than revenue to value a business they are considering buying. But even in doing this, problems arise because some agencies have certain types of expenses others don’t, or their expenses of certain types are unusual. Things like interest expense, taxes paid, depreciations expense and amortization expense are treated differently depending on the type of legal organization or other differences in an agency.
In order to “normalize” the financial statements of a broad array of agencies, buyers like to remove certain items from the expense side of the income statement. The things that are normally removed are interest expense, income taxes, depreciation expense and amortization.
In our day-to-day operations, we don’t often stop to think about EBITDA, but it’s a key component of our agency’s value. I recommend that each year agency owners do the calculations to determine EBITDA for their agency as a necessary part of tracking agency value. Of course, once you have this number you can easily determine what the market place is currently using for a multiple and determine your agency’s value.