EBITDA (earnings before interest, taxes, depreciation, and amortisation) is a representation of how much money a company makes before costs related to tax, loan interest, depreciation of tangible assets, and amortisation of non-physical profits are taken into account.

As a business, it’s important to understand EBITDA to assess your value and performance. To learn more about EBITDA and its importance and downfalls, continue reading.

EBITDA in Simple Terms

EBITDA measures the profitability of a business, mainly focusing on a company’s core performance. It’s a key tool in assessing a business’s ability to generate cash.

However, many believe that EBITDA prevents gaining clearer insight into the overall financial health of your company, often excluding vital expenses – which could be problematic. If your business needed a loan, the bank would likely use EBITDA to decipher whether you could make repayments.

EBITDA Calculation

The calculation for EBITDA is net income + interest + taxes + depreciation and amortisation.

Net income – the total amount of profit after deducting expenses
Interest – the cost of your debt
Taxes – the amount of paid income tax
Depreciation – the decline in value of tangible assets over a set period
Amortisation – similar to depreciation, but for intangible assets over a set period

For example, let’s say your company has £500,000 net income, £20,000 interest, £150,000 paid in income tax, and £10,000 depreciation and amortisation, the calculation would be as follows:

EBITDA = £500,000 + £20,000 + £150,000 + £10,000 = £680,000.

Therefore, your EBITDA is £680,000.

EBITDA Margin Calculation

The calculation for your EBITDA margin is EBITDA / total revenue amount x 100.

EBITDA – as discussed, is net income + interest + taxes + depreciation and amortisation
Total revenue – how much your business has made before expenses

Still making a guess estimation that your EBITDA is £680,000, let’s say that your total revenue is £2,000,000. The calculation would look like this:

£680,000 / £2,000,000 x 100 = 34 %.

This makes your EBITDA margin 34%.

This percentage equals the amount of total revenue remaining once you’ve accounted for operating expenses (excluding interest, taxes, depreciation, and amortisation). For the most accurate calculation, you must have an actual, correct figure of total revenue.

What is a Good EBITDA Margin?

A good EBITDA margin is typically specific to:

The type of industry your business operates in
How much competition is within the industry you’re in
The size of your business
The stage of growth your business is in

The higher an EBITDA margin, the more profitable your business is likely to be. However, it’s believed that an EBITDA margin is still considered good at 10%.

Why is EBITDA Important?

EBITDA is a helpful financial tool that measures the performance, profitability, and valuation of your company. It’s important in business for several key reasons:

Reflects your profitability
Allows for more informed financial business decisions
Attracts potential investors
Shows how well your company operates day-to-day
Serves as a useful tool to determine your valuation
Helps better understand your ability to generate cash flow
Provides insight into your company’s overall performance

Unlike net income, which shows earnings before deductions have been made, EBITDA mostly represents how much cash profit your business has made through its operations.

Are There Downfalls of EBITDA?

There are both pros and cons to EBITDA. In some cases, EBITDA reveals a more negative side. When calculating your company’s EBITDA, you’re only really looking at part of the financial history of your business. Because of this, many believe that EBITDA doesn’t provide a true reflection of financial performance.

If investors are interested in your company, they may use EBITDA to compare profitability levels between yourself and another company – making it more important than ever to ensure your financials are correct.

Despite potential drawbacks, EBITDA does provide many benefits – proving to be most useful to potential investors. However, it’s advised that EBITDA is assessed alongside other key financial metrics, including your company’s operating and net income.

Key Takeaways

EBITDA is an acronym for earnings before interest, taxes, depreciation, and amortisation
The EBITDA calculation formula is net income + interest + taxes + depreciation and amortisation
Some believe that EBITDA has potential drawbacks, failing to provide an accurate representation of financial performance
EBITDA should be used with other financial metrics

Find a Trusted Accountant Today

Accountants play a key role in calculating your company’s EBITDA. At DH Business Support, we consist of a team of trusted and highly experienced chartered accountants who are ready and waiting to help your business.

We aim to assess and improve the financial health of your business – this involves evaluating your company’s ability to remain profitable and attract potential investors.

Additionally, we advise, support, and guide you on strategies to enhance your company’s EBITDA. When it comes to your business’s finances, it’s best to have an accountant to assist you.

If you’d like to learn more about our services and how our knowledgeable accountants can help you, please contact us today. We look forward to discussing your business goals.