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Definition of EBITDA

EBITDA Valuation

In order to completely understand the concept of EBITDA, an intelligent idea is to visualize the formula concept. Express the EBITDA calculation formula as follows:

EBITDA = Revenues – Costs (excluding interest expenses, taxes, depreciation, and amortization)

or, if a person wants to view EBITDA in terms of the excluded expenses listed above, another way to calculate EBITDA is: EBITDA = Net Income + Interest + Taxes + Depreciation + Amortization

Now, let’s look at EBITDA ratio analysis. Use EBITDA in accounting ratios that compare the profitability of different companies in the same industry. It is important to have a preferable EBITDA so that you can make positive estimates about your company for the future. At the same time, it is just as important, if not more so, to have a positive EBITDA for outside observers. For example, a ratio used to compare profitability is the EBITDA margin ratio. Calculate it using the following equation:

EBITDA Margin Ratio = EBITDA/Sales

The idea is that excluding interest, taxes, depreciation, and amortization gives a clearer picture of a company’s operating performance. More specifically, a company can be viewed with no stings attached using the calculation of EBITDA. Essentially, EBITDA is the skeleton and necessary structure functions and costs of the company. Also use EBITDA to measure the ability of a company to service its interest bearing debt, through the use of the EBITDA coverage ratio. Calculate EBITDA coverage ratio using the following equation:

EBITDA Coverage Ratio = EBITDA/Debt Service

Value companies using a EBITDA valuation multiple. Calculate the enterprise value of a company using a multiple of its annualized EBITDA. Express this as:

Enterprise Value (EV) = Multiple * EBITDA

where the multiple is derived from an average of comparable transactions in the company’s industry. To use this method to value a company’s equity, subtract the company’s total debt less cash (known as net debt) from its enterprise value:

Equity Value = Enterprise Value – Total Debt – Cash

If you want to find out more about how you could utilize your unit economics to add more value to your organization, then click here to download the Know Your Economics Worksheet. Shape your economics to result in profit.

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