EBITDA - What is EBITDA?
EBITDA stands for Earnings Before Interest, Tax, Depreciation and Amortisation and is calculated through a formula to help a business determine its profitability
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EBITDA measures a company's operating performance. It is essentially net income with interest, taxes, depreciation, and amortisation added back in. It can be used to more accurately analyse and compare profitability between companies and industries because it eliminates the effects of tax, financing and accounting decisions.
To calculate EBITDA, depreciation and amortisation must be added to a firm's operating income. The formula is as follows:
EBITDA = EBIT + Depreciation + Amortisation
As can be seen above, the EBITDA goes beyond the EBIT calculation by including any depreciation and/or amortisation of assets possessed by the business.
Company analysis using EBITDA results
EBIDTA enables analysts to exclude the impacts of non-operating activities and focus on the outcome of operating decisions. Non-operating activities include interest expenses, tax rates, and large non-cash items such as depreciation and amortisation.
By removing the non-operating effects, EBITDA gives investors the ability to focus on the profitability of their operations. This type of analysis is particularly important when comparing similar companies across a single industry for example.
Limitations of EBITDA
The EBITDA calculation can be deceptive if it is not applied correctly - particularly for firms with massive debt - because it will almost always be higher than reported net income.
EBITDA isn't regulated by UK GAAP. Therefore, investors are dependent upon the discretion of the company to decide what will, and what will not be included in the calculation.
When analysing a firm's EBITDA, it is useful to factor in additional items, for example:
- capital expenditures
- changes in working capital requirements
- debt payments, and
- net income
EBITDA and Debitoor
Managing your income and expenses well is the first step to being able to determine your EBITDA. Debitoor invoicing software makes it easy to stay on top of payments to your business, as well as expenses that you incur.
In addition, it’s possible to add an asset to your business, and apply the appropriate depreciation in order to have a better grasp of your company finances when using a calculation such as EBITDA.