Which items should you adjust when converting EBITDA to sustainable free cash flow in private equity modeling?

• A. Non-recurring items
• B. Owner-run expenses
• C. One-time costs
• D. All of the above

Answer: (D)

When modeling, you want cash flow that reflects what the business can generate on a repeatable, ongoing basis under new ownership. That means stripping out items that distort normal operations.

Non-recurring items distort ongoing performance because they’re not expected to recur. They can be unusual gains or unusual losses, but either way they don’t reflect what the business will generate year after year, so they’re removed to show a stable baseline.

Owner-run expenses distort true operating costs. If the current owner pays themselves above-market compensation or incurs owners’ perks that wouldn’t continue after a transition, these costs should be normalized to what a new owner would reasonably incur.

One-time costs distort cash flow because they’re isolated events not tied to the ongoing business model, such as restructurings, unusual legal settlements, or one-off project costs. Excluding or normalizing these helps capture the ongoing cash-generating capacity.

All of these adjustments are applied to convert EBITDA into sustainable free cash flow, giving a clearer picture of the cash a business can reliably produce.