Calculating EBITDA: Evaluating Your Company’s Performance for the Year
To truly understand the financial health of your company, you need to figure out the EBITDA. While this sounds like a clandestine method to anyone not familiar with a financial statement, EBITDA is merely an acronym that stands for the accounting calculation, Earnings Before Interest, Taxes, Depreciation, and Amortization.
Therefore, the “E” in EBITDA stands for net income or earnings of a company. To determine how your business is performing, you need to know how to calculate the EBITDA.
Doing so will give you the information you need to know how to cut costs, increase some expenses, or improve on customer service. You will quickly receive a defining picture of your company’s financial health if you know how to perform this calculation.
How to Reveal the Value of Your Company through an EBITDA Calculation
So, how do you make an EBITDA calculation? How do you take the mystery of finding a solution to this much-needed equation? Without this equation, you stand to lose much more than you stand to gain as it reveals the valuation for your company.
Accountants choose one of two ways to figure a company’s EBITDA. To determine the value, they may add interest, taxes, depreciation, and amortization to the net profit or come up with an answer by adding the company’s operating income, depreciation, and amortization.
They can easily glean this information from a business’s income statement. It is vital that the numbers are precise as any lack of accuracy can undervalue or overvalue a company’s profit profile. When making the calculation then, you need to rely on a reliable system of accounting or work with a competent and trusted accountant.
Defining Each Component
To understand EBITDA further, you need to learn each of the components that go into the equation. You can narrow down the definitions, as follows:
- Earnings or net earnings represent the income left after expenses that are deducted from a company’s profits. These costs may include employee salaries, the costs of raw materials and goods, and taxes.
- Interest may include the costs of interest rates assessed by lenders and banks for financing.
- Taxes make up business tax obligations paid on the state and federal levels.
- Depreciation is an expense that shows the reduction of a company’s value for fixed assets. The non-cash expenditure represents a decrease in an asset’s worth.
- Amortization represents another non-cash expense that applies to the costs for intangible assets. It is used to write off the initial amount paid for an asset.
Tax rates, interest payments, and major intangible assets are all excluded from the calculation of EBITDA, as this formula primarily focuses only on the financial effect of operational activities.
Therefore, rates for taxes and interest, and intangible assets represent items directed to the non-operating aspects of a business. For this reason, calculating the EBITDA works well when a business decides to follow a mergers and acquisition plan.
Making Better Operational Decisions
By using an EBITDA metric, you can better show your company’s worth by separating the costs and expenses. and showing how they apply to the overall equation.
Doing so will give you keen insight into your company’s performance and margin for growth. This metric works out quite well for making operational decisions.