EBIT

What it means

EBIT stands for earnings before interest and taxes. It shows how much a company earned from its core business regardless of how it is financed and how much income tax it pays.

It is derived from the income statement: tax and interest expense are added back to the after-tax profit, and interest income is deducted. It roughly matches operating profit, though not always exactly, depending on where the company placed exceptional items.

Unlike EBITDA it includes depreciation, so it reflects that assets wear out and must one day be replaced. For asset-heavy businesses such as manufacturing or transport, EBIT therefore gives a more realistic picture of profitability.

How it works in practice

EBIT is used to compare companies financed differently: one has a large loan, the other none, so their net profit differs even though their operations are equally successful. It feeds into profitability ratios on sales and assets, such as ROA, and into interest cover, meaning how many times profit covers interest.

Banks monitor interest cover as a loan condition, and an EBIT-to-interest ratio below the agreed level can breach covenants. A similar measure plays a role in the thin capitalisation rule, although that is calculated from an adjusted tax base.

For clients we show EBIT in monthly reporting next to revenue and cash and clean it of one-off items such as asset sales or an exceptional repair. Adjusted EBIT shows the trend better and is also an input to the Altman Z-score.

What to watch out for

EBIT is not cash. Earnings before interest and taxes can be high while the company has no money, for example when revenue is stuck in receivables or inventory is piling up. We therefore always read it together with cash flows.

Companies sometimes present EBIT adjusted for items they find inconvenient, and the resulting number bears little relation to accounting profit. When comparing with competitors or negotiating with an investor, it is essential to know exactly how it was calculated, otherwise non-comparable numbers are being compared.