One of the most commonly used metrics in analyzing the financials of a company is the EBITDA or the Earnings before Interest, Taxes, Depreciation and Amortization. Many of the capital intensive companies do not make profits because the interest and depreciation costs are too high in the early days of such businesses and it takes time to build the business. In such cases, the EBITDA is used to measure profitability instead of net profit.
When the EBITDA is divided by the net sales for the period, you get EBITDA margins. The two very important calculators from a financial analysis perspective are the EBITDA Margin Calculator and the EBITDA Calculator. While the EBITDA Margin Calculator helps you to capture the margins at an operating level using inputs, the EBITDA Calculator helps you to just calculate the EBITDA.
Earnings before interest, tax, depreciation, and amortization (EBITDA) is a measurement that is used very commonly and popularly by investors, investment bankers and analysts to determine the core or intrinsic strength of an organization's operating performance. The idea of looking at the operating performance is to look at that part of the business which is core and sustainable from a long term view. Such calculations can be automated using the EBITDA Calculator and the EBITDA Margin Calculator.
Essentially, what the EBITDA Margin Calculator and the EBITDA Calculator does is that it gives an indication of a company's earnings before payment of interest and taxes, as determined by adding back amortization and depreciation. To better understand the EBITDA Margin Calculator and the EBITDA Calculator let us first understand the formula for calculation of EBITDA.
The formula for EBITDA is:
EBITDA = EBIT + Depreciation + Amortization
Hence to understand EBITDA, it becomes logically important to understand EBIT or the Earnings before interest and taxes. Now, Earnings before interest and taxes (EBIT) is a measurement that is commonly employed in accounting and finance as an indicator of a company's profit. It includes all expenses except interest and any income tax expenses. In other words, EBIT is the difference between operating revenues and operating expenses.
EBITDA and EBITDA margins
EBITDA margin is a measure of a company’s earnings before interest, taxes, depreciation, and amortization as a proportion of net sales or revenues that it has earned. What exactly does EBITDA indicate?
EBITDA provides an indication of how much cash a company earned from its core business, while EBITDA margin indicates how much cash the company earned from its core business in relation to its net sales. Note that net sales here is the sales (net of excise/GST).
The formula for EBITDA margin is:
EBITDA Margin = EBITDA / Total Revenue
Both the EBITDA and the EBITDA margin can be easily calculated using the EBITDA Margin Calculator or the EBITDA Calculator as the requirement may be.
You can either calculate EBITDA and EBITDA margins manually or by using the EBITDA Margin Calculator or the EBITDA Calculator. The use of calculators are recommended as they are quicker and also more accurate. But let us also understand the methodology that the EBITDA Margin Calculator and the EBITDA Calculator actually use and what goes on in the background before you get the output. There are basically two approaches.
Approach 1: Start from bottom-line and move up to EBITDA
The formula under this method is as under
EBITDA = Net Income + Interest + Taxes + Depreciation + Amortization
You essentially start with the net income or the net profit as you prefer to call it. In order to calculate EBITDA, add back the interest and tax items to the net income and also add back the depreciation and amortization (if any) to this number. The result you get is the EBITDA.
Approach 2: Start from the operating profits in this case
The formula under this method is as under
EBITDA = Operating Profit + Depreciation + Amortization
In this approach, start with operating profit or operating income and just add back the depreciation and amortization.
On the positive side, EBITDA is important because it looks at the business from operating perspective. Also, it is very useful for capital allocation in case of multiple business lines and also very useful as an analytical tool for loss making companies or for projects with long gestations. However, EBITDA approach has its limitations too. Here are few of them.
The truth is that when you evaluate a business, outlays like taxes, interest, depreciation and amortization do matter a lot. Also, it often happens that businesses with huge debt or fixed assets can try and paint a rosy picture by using EBITDA instead of PAT. That is why, EBITDA is always best used in conjunction with other measures of profitability. Needless to say, your job of calculating these parameters / ratios is simplified by instruments like the EBITDA Margin Calculator or the EBITDA Calculator.
What is the use of EBITDA?
We have already understood that EBITDA is calculated by starting with net income and then adding back interest, taxes, depreciation and amortization expenses. EBITDA is useful as a metrics to analyze the company's operating profitability. That is because, EBITDA calculates your core operating flows before non-operating expenses such as interest and non-cash charges like depreciation and amortization. It is less influenced by the extent of leverage.
Difference between EBITDA Margin and Net Margin?
Here are some key differences between EBITDA margins and Net Margins.
What are the uses of EBITDA in Fundamental and Technical Analysis
EBITDA is not really used in technical analysis since it is more of a fundamental measure. However, EBITDA is an important of fundamental analysis. Here is why.
What is Depreciation and Amortization?
Amortization is the practice of spreading the cost of an intangible asset over its useful life while depreciation is the expensing of a fixed asset over its useful life. The idea is that since this non-cash amount is debited to the income statement, the tax shields on such non-cash expenses can be used to fund the replacement of such assets.
Most of these calculations and the screening of multiple such ratios can be successfully done quick with the use of instruments like the EBITDA Margin Calculator or the EBITDA Calculator.