What is EBITDA?
EBITDA (pronounced “ee-bit-dah” 😅 and stands for Earnings Before Interest, Taxes, Depreciation & Amortization) is an important financial metric which can give you a better understanding of a company’s underlying profitability.
EBITDA is a way of looking at a company’s “inherent” ability to make profits, before considering more accounting related items such as interest, taxes, depreciation and amortization - all of which can be influenced to some extent by company management / accountants.
Many companies recognise the importance of EBITDA for investors, and usually provide it as part of their earnings reports. That said, companies are not usually required to explicitly disclose their EBITDA as part of accounting regulations, so it’s helpful to know how to calculate it yourself if needed:
EBITDA = Net Income (a.k.a. Earnings) + Interest + Taxes + Depreciation + Amortization
EBITDA = EBIT + Depreciation + Amortization
These items are all available on a company’s income statement. We’ve provided a generalised (and simplified) version of an income statement at the bottom of this article, to help you nail down EBITDA!
There is also an arguably more intuitive way of calculating EBITDA which we provide below, but it’s worth noting that companies don’t always present costs in the same, calculation-friendly way:
EBITDA = Revenue - Cost of Goods Sold (CoGS) - Selling, General & Administrative Expenses (SG&A)
In other words, EBITDA is a measure of a company’s underlying profitability (the difference between the revenues from what it sold and the costs to make what it sold), before taking into consideration:
Some companies might have more debt than others, so interest payments can differ materially
These can influence how much Interest companies pay on their debt
Companies might pay different taxes because they are incorporated in different countries
These differences can influence how much Taxes companies pay
Companies might depreciate their equipment in different ways depending on the accounting standards they need to apply and sometimes also depending on what rules management decide to apply
These differences can influence how much Depreciation & Amortization is included in the income statement
EBITDA is therefore a helpful metric when comparing the business model performance of different companies (especially across different countries), as it strips out these management / accounting decisions and tax differentials, leaving you with an idea of how good the company is at generating operating cash flow.
It can also be helpful to compare EBITDA margins across companies to get a sense of the efficiency of each company’s business model:
EBITDA margin = EBITDA / Revenue
Of course, financing decisions, tax differentials and accounting standards are important in the real world, so EBITDA / EBITDA margin should not be something you rely on solely as a basis for assessing a company’s profitability. Instead, it is helpful to look at EBITDA in the context of other things such as a company’s gross profit, operating profit, net income and leverage.
Generalised Income Statement
Please know, the value of investments can go up as well as down and you may receive back less than your original investment, meaning, when investing your capital is at risk.
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