Operating Leases in Enterprise Value, Explained

The inconsistency arises because enterprise value and EBITDA must belong to the same set of claimholders. By adding the lease liability to EV, you are treating the lease as a debt-like claim held by a capital provider (the lessor). But reported EBITDA already deducts the rent payment as an operating expense, so that EBITDA is not available to the lessor as a return on its claim.

The lessor’s return is embedded in the rent deduction; thus the numerator includes the lessor but the denominator has already paid the lessor. That double-counts the cost.

The adjustment is to capitalize the lease: treat the present value of future lease payments as debt and add it to EV, then remove the rent expense from EBITDA by adding it back, creating EBITDAR. Now both numerator and denominator reflect the claims of the lessor as a capital provider, and the multiple EV/EBITDAR is consistent.

Follow-up pressure:

• How would you handle leases under IFRS 16 where EBITDA already excludes depreciation and interest on the lease? Would you still need to adjust?
• If a company has both operating and finance leases, and the finance leases are already in debt and depreciation/interest is below EBITDA, would you treat the operating leases differently?
• Explain how a quick ratio or coverage ratio might also be distorted by this same mismatch.