When you run a business, your financial health means everything to your success. One tool for understanding that financial status is EBITDA, which stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. It’s a measure of a company’s profitability without taking into consideration the interest, taxes, depreciation, and amortization that you may have.
What Is EBITDA in Business?
Business owners, lenders, and investors use EBIDTA to measure the productivity of a business by calculating how much it makes — its earnings — without considering real expenses that aren’t part of the production process. Expenses such as interest on loans, income taxes, depreciation of assets, and amortization of capital goods are among the excluded items. When you subtract items such as these, EBIDTA measures cash flow from operations effectively.
In other words, it eliminates your financing and accounting decisions when looking at how well your business does to just look at your profitability instead of looking at how you’re funding your operations. EBIDTA shows how well your company can generate income without worrying about whether you’re using debt or equity to pay for it. This calculation also eliminates some of the expenses, such as depreciation, that don’t impact whether or not you’re able to generate revenue. It’s also a way to compare similar businesses equally without looking at how they’re financing the companies. Investors or potential buyers sometimes look at EBIDTA to make an investing or buying decision.
What Is EBITDA in Finance?
Your accountant and financial analyst use EBITDA when they analyze the overall operating performance of your business. Working from your business income statement, they apply this formula:
- EBITDA = Earnings Before Interest and Tax (EBIT) + depreciation + amortization
- On your income statement, EBIT is the operating profit.
Taking information from income statement line items, accountants and analysts calculate EBITDA.
Here’s how to calculate EBITDA for your business using the formula stated.
- If your income statement shows your EBIT or operating profit is $650,000, and
- Your depreciation is $50,000, and
- Your amortization is $20,000, then
- Your EBITDA equals $720,000.
EBIT ($650,000) + Depreciation ($50,000) + Amortization ($20,000) = EBITDA ($720,000). Since EBITDA is a measure of your profitability, the higher the number, the better for your business. A lower number means you’re making less profits, regardless of how you’re paying for your operations. A higher number means you’re able to efficiently generate income.
Investors use EBITDA as a sign of operating profitability when comparing businesses in different tax brackets or within a single industry. Accountants use other factors in addition to EBITDA when assessing overall business health. They include factors such as debt payments, capital expenses, working capital, and net income. Consulting your accountant regularly helps keep you informed about the state of your business and strategies for growth.
You’re striving to increase the EBIDTA of your business, and having the right tools makes it easier. 4.3 million customers use QuickBooks. Join them today to help your business thrive for free.