Tuesday, July 19, 2016

EBITDA-Earnings before Interest, Tax, Depreciation and Amortization

This is one of the most sort out data point for all the traders or investors to take a plunge into stocks of any company.

EBITDA is self explanatory; it means that the Earnings that are taken into consideration well before paying out any expenses. General understanding is that companies only have rents and salaries as expenses but that’s actually a myth. Interests on Loans for business, Taxes on earnings etc are also one of the biggest expenses that a company needs to pay.

EBITDA does not include these expenses into its calculations and hence not accounting for the costs which do not impact its core operations .The traders use this as a tool to compare two business models. Reason being a retail business or acorporate business might have different expenses and hence it will be difficult to analyze if investing in the retail or manufacturing business would be easy. But if the expenses are not considered then it makes the data so simple that taking investment decisions becomes very simple.

Let’s look at the example below;
Business Type: Retail
Cash Flow

Business Type: Manufacturing
Cash Flow
Total Earnings

Total Earnings
Total Expenses(includes salaries, etc)

Total Expenses(includes salaries, interests etc)
Total Depreciation, Interest

Total Depreciation, Interest
Total Taxes

Total Taxes
Total Cash Earning

Total Cash Earning

The above figure shows the EBITDA of the companies are 6,500,000 and 14,000,000 but actual cash earnings differs by half.

Another problem with  EBITDA as it does not include the details of when the cash has been exchanged but only what the company decided on papers as this is not really showing the cash earnings.

Hence, if someone looks at the EBITDA they will think Manufacturing business is good investment whereas Retail is a better option considering they have less debt to pay.

We would be talking about this in our  Imarticus Learning Investment Banking course in detail.

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