EBITDA stands for earnings before interest, taxes, depreciation and amortisation. It starts from a company's revenue, subtracts the everyday costs of running the business (wages, materials, rent), and stops there, before the charges for debt, tax and the gradual write-off of equipment and acquired assets. The usual formula is operating profit (EBIT) plus depreciation and amortisation. People use it to compare how much a business earns from its operations, whatever its debt level, tax rate or accounting choices. It is not a cash flow: it ignores the money a company must spend to replace worn equipment, and it ignores changes in working capital. For the valuation multiple that uses it, see EV/EBITDA.
Worked example
A company has revenue of $1,000,000 and day-to-day operating costs of $700,000, so EBITDA = $1,000,000 - $700,000 = $300,000 (a 30% EBITDA margin). It then charges $120,000 of depreciation and amortisation, so operating profit (EBIT) = $300,000 - $120,000 = $180,000. After $40,000 of interest, profit before tax is $140,000, and with 20% tax ($28,000) net profit is $112,000. Now look at the cash side: the company spent $180,000 on new equipment this year. EBITDA minus that spending = $300,000 - $180,000 = $120,000. The $300,000 headline is far bigger than the $120,000 left after that spending.
Why it matters
EBITDA gives a fast way to compare the operating earning power of companies that have different debt, taxes and depreciation policies, which is why it appears in so many valuation multiples. Its weakness is what it leaves out. Equipment wears out and has to be replaced with real money, interest and tax still have to be paid, and a company can show a healthy EBITDA while its cash drains away. It also has no official accounting definition under the main standards, so firms sometimes adjust it in their own way. A high or low figure is a question to look into, not a verdict: read it next to operating cash flow, free cash flow, net debt and the company's own past years.
Frequently asked questions
It is a company's profit from running the business before paying interest, tax, and before the yearly write-off of equipment and acquired assets. In practice it is revenue minus everyday operating costs.
No. EBITDA ignores the money spent on replacing equipment and changes in working capital, and it is before interest and tax, which are paid in cash. A company can have a high EBITDA and still burn cash.
EBIT is EBITDA after subtracting depreciation and amortisation, so EBIT is always the smaller figure when those charges exist. EBIT counts the gradual wear of equipment as a cost; EBITDA does not.
Related terms
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