We talk about EBITDA often in our office. The financial measure is important when valuing a business. Business owners, buyers of businesses and even financial advisors can be at a loss for what EBITDA truly means because it is mainly used in the sale of a business- an event they’ll likely experience once.
There is a heap of questions out there regarding EBITDA. And there is an equal amount of answers. We weeded through the resources out there and found the best answers to your EBITDA questions.
1. What is EBITDA?
EBITDA stands for Earnings Before Interest, Taxes, Depreciation and Amortization.
The Strategic CFO has a library of financial term definitions. They explain EBITDA by saying:
“It measures a company’s financial performance by computing earnings from core business operations, without including the effects of capital structure, tax rates and depreciation policies. It is used as a proxy for a company’s operating cash flow and is not defined under Generally Accepted Accounting Principles.”
They explain how EBITDA is used in business valuation here. For their definition of Adjusted EBITDA click here.
This video walks through a basic EBITDA calculation with a helpful example:
2. How do I calculate EBITDA? Where do I look on my financial statements?
Here are two basic explanations of how to calculate EBITDA.
Investing Answers
Investopia
Below are two videos explaining EBITDA calculation.
This downloadable spreadsheet from Exit Promise tells you exactly where in your tax returns you’ll find the needed numbers to calculate EBITDA- then it does the calculation for you.
3. How is EBITDA different than other financial measurements?
Sometimes EBITDA can be misunderstood as being the same as other financial measurements. Here are a few articles to help straighten out what EBITDA is and what it isn’t.
EBITDA is not cash flow. EBITDA is not net income. (From How Stuff Works)
EBITDA is not free cash flow. EBITDA is not cash flow from operations. (From Wall Street Prep)
EBITDA is not gross profit. (From Investopia)
4. Why is EBITDA used?
“EBITDA makes it easier to compare the financial health of various companies.”
This article from Investopia explains how EBITDA is a measurement that simplifies a company’s profits to look strictly at operations.
“If you are looking to sell your company, raise capital, or even buy another company, you will likely have to justify the company’s EBITDA to prove your attractiveness to investors or acquirers.”
This Inc article answers why your banker cares about EBITDA.
5. How should I use EBITDA? What does it tell me about the business?
What Is EBITDA and How Can Your Company Use It? (From Quickbooks)
How to Use EBITDA to Value Your Company (From Inc)
This article from Arkady Libman at Wall Street Prep explains EBITDA multiples and warns that their simplicity can be deceiving.
New York University’s Stern School of Business has a chart of EBITDA multiples by industry. It is updated monthly.
6. What’s the history of the measurement? Should we even be using it?
EBITDA was coined by John Malone. Read more about the term’s history from ValueWalk here.
EBITDA can get a bad rap for being easy to manipulate and being a misleading way to measure a company’s earnings. These two articles dig into that perspective.
How EBITDA Can Mislead (From Harvard Business Review)
What Buffett and Seth Klarman Say About EBITDA (From Old School Value)
Although it may be unhelpful or even misleading in public companies, the use of EBITDA is valuable in privately-held businesses. EBITDA is a central component in our work everyday as we work to craft deals that are fair by valuing businesses consistently. Read about EBITDA’s role in business valuation in our Ultimate Guide to Business Valuation.