On the Sell-Side: The Importance of Add-Backs | Podcast

Private Equity in Motion

In this episode of Weaver: Beyond the Numbers, Private Equity in Motion, Sean Muller and Brian Reed break down a key component of selling a business: add-backs. They explain how add-backs affect valuation, why clear documentation matters and which items —from legitimate business costs to personal “piggy bank” expenses — can create tax exposure or jeopardize a deal. The discussion also highlights the importance of maintaining accurate add-back schedules to present a normalized view of operations. Whether you’re preparing for a sale or reviewing your financials, this episode provides practical guidance to support a smoother transaction process.

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Detailed Description of On the Sell-Side: The Importance of Add-Backs

00:00:00
Sean: This is Sean Muller, and I’ve got Brian Reed with me. And we’re talking once again about what sellers need to be considering in doing a transaction.

The big point that comes up, Brian, are add-backs, right? And so why are add-backs important, and what are they?

00:00:15
Brian: Well, add-backs from a very simplistic perspective are — if you think about every dollar that you’re adding back, there’s a multiple that’s being applied to that as part of the transaction.

00:00:26
Brian: I’m not going to get into what the multiple should be because that’s not my sort of purview, but specifically, what those add-backs are can be a wide range of things.

A lot of times, there are expenses that for characterization purposes, may not be directly necessary to operate the business.

00:00:47
Brian: And so, identifying those — like maybe you historically have put expenses that your family or vacations, or I’ve seen all kinds of things: alimony payments, you name it — into the P&L [profit & loss statement].

So, you’re trying to identify those items that should be removed to be able to provide an investor or buyer what the normalized level of operation should be.

00:01:25
Brian: And the one thing — and this is probably a good idea if you’re going to have a potential, or you’re thinking about selling — is to start categorizing and identifying those things that are nonrecurring as you do them on a quarterly or monthly basis.

00:01:45
Brian: And more importantly, for those larger items, is to document them because one thing that we do as part of our process is, if there are management add-backs or things like, “Hey, this should be added back,” we’re going to obtain documentation that provides support for those adjustments.

And there’s also other adjustments that could be total legitimate business expenses — like, let’s say, you implement a software and there’s consulting charges and things like that — that you’re not going to incur on an ongoing basis.

00:02:29
Brian: They’re going to be one-time expenses that could be pretty pricey that aren’t necessarily capitalizable expenses, but they’re going to sort of deflate the earnings of the business for a period of time until you get it completely operational.

00:02:47
Sean: Yeah. So, there’s some good add-backs, like you’re talking about there. And then there are the bad aspects, or the personal expenses, the “piggy bank,” etc.

00:02:54
Sean: I mean, we had a lot of these during COVID with the good add-backs of, “We’re actually taking it out,” right?

Well, you’re not going to get those ERC refunds again. You’re not going to get PPP loans — whatever it may be. But there are good add-backs that are actually legitimate things that are nonrecurring.

00:03:08
Sean: There are just the piggy bank items that come up — wife on the payroll, all the kids have W-2s and credit cards and stuff like that — which may be great ongoing business, but those cause a lot of issues on the tax side.

00:03:23
Brian: Yes.

00:03:24
Sean: Because, like, that’s the first thing you should look at is, “Alright, what are their add-back schedules?” And to see if, “What are my tax exposures?”

And so, in trying to get this extra multiple, you could potentially even kill a deal if you’ve got too many personal expenses running through there because of tax exposures.

00:03:38
Brian: Yep. I was going to let you answer that piece. I knew where I was going as it relates to some of these personal add-backs because it does create some tax exposure, as you said, on the backside.

00:03:56
Sean: Yeah. It is helpful for our tax due diligence side to actually see that add-back schedule and see all the different things that come up, for sure.

00:04:04
Sean: All right, Brian. Thanks so much.

00:04:05
Brian: Thanks.

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