Module IV· Cash FlowAdvanced
Question
How do you treat non-cash items like capitalized development (R&D capitalization) in an LBO cash flow?
Answer
Mechanics
Capitalized development (R&D capitalization, IAS 38) goes onto the balance sheet instead of through the P&L — which inflates EBITDA.
Deep diveShow more details
Comparison (effect in the model)
| Item | With capitalization | With direct expensing |
|---|---|---|
| EBITDA | higher (R&D not in OpEx) | lower |
| D&A | higher (R&D is amortized) | unchanged |
| Capex | higher (R&D counted as Capex) | unchanged |
| Net cash flow | same | same |
Consequence
EBITDA multiples on companies that capitalize R&D are not directly comparable. Standard bridge: 'EBITDA before capitalized R&D' — some middle-market tech companies report both.
Common pitfalls
- In the leverage calculation, banks may define "Adjusted EBITDA" as EBITDA with capitalized R&D stripped out — the sponsor then sees a higher leverage multiple
- For software companies, up to 30% of revenue as capitalized development is common
Pitch tip
Question: "How would you value software EBITDA?"
Answer: "I would use EBITDA ex-capitalized R&D, because that shows the honest cash-flow generation. Most lenders do the same"