EBITDA is an acronym for earnings before interest, taxes, depreciation, and amortization. It measures a company’s net income after adding non-cash expenses such as interest accrued, state-mandated payments, and costs to maintain tangible and intangible assets.
Investors and analysts often use it to evaluate a company’s financial performance for potential growth. However, it should be something other than a standalone measure for financial performance because it doesn’t show the impact of debts, taxes, depreciation, and amortization.
For a more reliable financial performance measurement, EBITDA can be used in conjunction with other financial metrics like; cash flow, return on investment, and net income.
Uses of EBITDA
Just because EBITDA is not a standalone metric doesn’t mean it’s useless. Below are some uses of EBITDA.
- 1. Comparisons: EBITDA is used to compare the profitability of different companies within the same industry. By comparing EBITDA for various companies, you can see how well each company performs relative to its peers.
- Trend analysis: EBITDA can be used to track a company’s performance over time. By comparing EBITDA for a company over multiple periods, you can get a sense of whether the company is improving or declining in terms of profitability.
- Valuation: EBITDA can be used to evaluate the value of a company. For example, you can calculate a company’s enterprise value, which is the value of the company’s assets minus its liabilities, or calculate its price-to-earnings ratio, which is the company’s market value divided by its earnings per share.
Formula and Calculation
The formula for EBITDA is EBITDA = Net Income + Interest + Taxes + Depreciation + Amortization
Here’s an example to illustrate EBITDA.
- Net income: $10 million
- Interest expense: $5 million
- Income tax expense: $10 million
- Depreciation and amortization: $10 million
To calculate EBITDA using the formula provided, add the net income, interest expense, income tax expense, and depreciation and amortization:
EBITDA = Net income + Interest + Taxes + Depreciation + Amortization
= $10 million + $5 million + $10 million + $10 million
= $35 million
The US Generally Accepted Accounting Principles (GAAP) does not recognize EBITDA. Nevertheless, you are most likely to find it on income statements because of its usefulness.
Variations of EBITDA you Should Know
EBITDAR stands for Earnings Before Interest, Taxes, Depreciation, Amortization, and Rent. It is calculated by adding back the rent expenses excluded from EBITDA. This measure is often used to evaluate companies with significant rent expenses, such as those operating in the real estate or retail sectors. The formula for EBITDAR is:
EBITDAR = EBITDA + Rent Expenses
EBIT stands for Earnings Before Interest and Taxes. It is calculated by adding the interest and tax expenses excluded from EBITDA. This measure is often used to evaluate a company’s profitability before the impact of its financing and tax decisions. The formula for EBIT is:
EBIT = EBITDA + Interest Expenses + Tax Expenses
EBITA stands for Earnings Before Interest, Taxes, and Amortization. It is calculated by adding back in the amortization expenses that are excluded from EBITDA. This measure is often used to evaluate a company’s profitability before the impact of its intangible assets, such as patents or trademarks. The formula for EBITA is:
EBITA = EBITDA + Amortization Expenses
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