A recent article in Institutional Investor examines EBITDA, earnings before interest, taxes, depreciation and amortization, a number commonly used in private markets for valuation purposes that can be “heavily inflated by a number of questionable adjustments.”

The EBITDA multiples of private companies—that is, the capitalization, or price, of the businesses relative to their underlying earnings—have surged in recent years, the article reports, “with the average buy-out deal transaction at approximately 11 times EBITDA through the first half of 2019.”

But since the earnings of private companies are not subject to the same regulations as those of public companies, there is significant leeway in the way EBITDA is calculated and, the article notes, the number can be significantly distorted. The article cites contributing factors such as high salaries paid to upper management along with their handling of expenses—many run items such as personal travel, club memberships, etc. through their corporate accounts. “However, when they go to sell the business,” the article argues, “they want the firm to be valued on earnings above those expenses, so they will present adjusted numbers to potential suitors.” Management might also artificially bolster revenue assumptions because of anticipated benefits from recent capital expenditures: “If you build it, just pretend the money has already come.”

The article concludes that EBITDA is “pretty much just a made up number at this point, whatever management wants it to be,” citing a quote from Berkshire Hathaway’s Charlie Munger: “I think that every time you see the word EBITDA, you should substitute the word ‘bullshit’ earnings.”