Exit EBITDA Multiple

An EBITDA multiple is, very simply, a company’s enterprise value (EV) divided by its EBITDA at a given time (EV / EBITDA); conversely, EV can be calculated by multiplying EBITDA by the EBITDA multiple. This metric has long been used as short-hand approach to a company’s valuation, and you will frequently hear individual deals or entire industries referred to as “an [X] times deal” or “an [X] times industry,” with X being a multiple of EBITDA.

EV / EBITDA quickly became the primary metric used by investors to evaluate, describe and benchmark leveraged buyouts in the 1980s, and it retains that title to this day. In most LBO models, cash flows and EBITDA growth are projected for five years, with an EBITDA multiple used to estimate enterprise value in the exit year. The underlying assumption is that the business is sold in the final year. In most instances, and certainly for most growing and healthy businesses, the sale generates the lion’s share of the proceeds to be distributed to investors (though in some cases dividends, refinancing, asset sales, or other cash generating events may also generate some portion of the proceeds).

For this reason – the critical importance of the event of sale, and thus the chosen exit multiple, in determining expected returns – it is generally frowned upon to use an exit multiple of EBITDA larger than the multiple paid on entry, especially if you cannot articulate why the investment is deserving of so-called “multiple expansion” (when secular changes in a business or industry justify higher multiples over time). But because the use of a higher exit multiple is one of the easiest ways to inflate returns and because multiples on private equity deals have generally been expanding over the past decade (for reasons we will expand on below), it can often be very tempting to bump your exit multiple up.

01:20 What is an EBITDA multiple?
01:50 Why do some businesses (or industries) command higher EBITDA multiples?
03:04 What is EBITDA Multiple Expansion?
03:52 Why have Private Equity EBITDA Multiples been expanding?
04:28 EBITDA debt multiples.
05:00 Private equity purchase price multiples.

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