EBITDA

What it means

EBITDA is earnings before interest, tax, depreciation and amortisation. You get it by adding back to the operating result the items that depend not on day-to-day trading but on how the business is financed, taxed and previously invested.

The point is comparability. Two companies with identical operations, one with machines on a loan and one owning them outright, report different profit but similar EBITDA.

Beside plain EBITDA, negotiations bring in adjusted EBITDA, cleaned of one-off and non-recurring items. The adjustments are made by whoever presents the figure, so in a business valuation what matters is not only the size of EBITDA but above all what the seller has taken out of it and why.

How it works in practice

It is used in company valuation, in bank covenants and in due diligence, often as a multiple - enterprise value expressed as EBITDA times a sector factor. That makes it the most watched figure when a business is sold.

You will not find it stated in the profit and loss statement; it is derived. When deriving it, one-off items must be excluded the same way in every year compared.

In small s. r. o. companies we adjust EBITDA for the owner’s pay. If the director draws no salary and takes only dividends, the business looks more profitable than it would with a hired manager; buyers and banks therefore add back the market salary the company would have to pay without its owner.

What to watch out for

EBITDA is neither cash nor profit. It ignores loan repayments, reinvestment in assets and money locked in working capital. A company with excellent EBITDA can have an empty account - which is why it is always read next to cash flow.

How assets are financed distorts EBITDA. Rent under an operating lease goes into services and lowers EBITDA, while an asset on a finance lease shows up as depreciation and interest, which are added back. Two identical companies then report different EBITDA, and comparing them without adjustment misleads.