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A guide to EBITDA

17 September 2019

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A guide to EBITDA

What does it stand for?

Earnings Before Interest, Tax, Depreciation and Amortisation.

What is it?

EBITDA is a measure of performance, used to compare profitability between organisations of the same industry and value a business for sale. Depreciation and Amortisation are added to net income, disregarding interest and tax payments. Non-operating expenses as well as some non-cash expenses are deducted.

The importance

This financial performance measure is important as it offers an insight to a company’s operational efficiency, indicating how much cash is potentially available for reinvestment. For investors, this is a key indication to providing investment or not. The EBITDA informs the lenders if the company can afford the capital and interest.

Pros:

  • Shows a clearer and truer reflection of a company’s financial health
  • Shows how successfully a business can generate profits
  • A quick way to give an analyst an estimate of a companies value
  • A useful way to compare companies within and across industries.

Cons:

  • Tax, depreciation, amortisation and interest are absorbed by the company and so should not really be excluded
  • Financial realities may be hidden, making the company appear more attractive than what it is
  • EBITDA should not be the only thing investors rely on when making financial decisions. A full financial evaluation should be used instead. 

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