The acronym EBITDA stands for Earnings Before Interest Taxes Depreciation and Amortization.
EBITDA is an approximate measure of a company’s ability to produce cash and it has become the most common way to value a business. By excluding interest, taxes, depreciation, and amortization, this measure provides a representation of the profitability of a business based on its core business operations, without the influence the capital structure and capital expenses of the business. In other words, EBITDA removes the financing influences on the income statement and focus on the company’s operational performance, making EBITDA a good tool for comparing the performance of two similar companies.
Important factors to note:
EBITDA is not a GAAP (general accepted accounting principles) measurement and will not show up on audited financial statements.
While an approximation of a company’s ability to produce cash, EBITDA is not a true measurement of cash flow.
The use of EBITDA as a valuation measurement started in the 1980s when it became popular with leveraged buyouts. It is now one of the most popular measures used by analysts.
EBITDA is not a good measurement to use for companies with exceptionally high debt costs or asset intensive businesses.