EBITDA stands for earnings before interest, taxes, depreciation, and amortization. EBITDA margins provide investors with a snapshot of short-term operational efficiency. Because the margin ignores the impacts of non-operating factors such as interest expenses, taxes, or intangible assets, the result is a metric that is a more accurate reflection of a firm's operating profitability. Thus, many analysts and investors use EBITDA over other metrics when conducting financial analysis.
Key Takeaways:
- EBITDA stands for earnings before interest, taxes, depreciation, and amortization, and its margins reflect a firm's short-term operational efficiency.
- EBITDA is useful when comparing companies with different capital investment, debt, and tax profiles.
- Quarterly earnings press releases often cite EBITDA.
- EBITDA margins—calculated by dividing EBITDA by total revenues—show how efficiently a firm operates.
- Generally accepted accounting principles (GAAP) do not use EBITDA as a profitability measure.
Understanding EBITDA and Operational Performance
EBITDA is similar to other profitability ratios but can be especially useful when comparing companies with different capital investment, debt, and tax profiles. EBITDA also is important to consider in the case of acquisition targets.
EBITDA is sometimes reported in quarterly earnings press releases and is frequently cited by financial analysts. Ignoring tax and interest expenses allows analysts to focus specifically on operational performance. Depreciation and amortization are non-cash expenses, so EBITDA also provides insight into approximate cash generation and operations controlled for capital investments.
Investors must be wary of valuations that rely too heavily on EBITDA. Generally accepted accounting principles (GAAP) do not include EBITDA as a profitability measure, and EBITDA loses explanatory value by omitting important expenses. Investors must consider net income, cash flow metrics, and financial strength to develop a sufficient understanding of fundamentals.
Margins measure income generation relative to revenue and are used to assess operational efficiency. Acquisition companies often focus on the income and cash generation potential of acquisition targets. EBITDA is, therefore, a useful tool for evaluating how a business portfolio may function when tucked into the overall operations of a larger firm.
What Is a Good EBITDA?
Calculate the EBITDA margin by dividing EBITDA by total revenue.
EBITDA margin = EBITDA / Total Revenue
The EBITDA margin calculated using this equation shows the cash profit a business makes in a year. The margin can then be compared with another similar business in the same industry.
Note
What might be considered a good EBITDA margin is relative and depends on the industry and the specific company's approach. For example, a smaller company with a higher margin could be said to be more efficient, but a larger company with a smaller margin likely is doing more in terms of volume, and that may be the goal.
For example, Company Ahas an EBITDA of$800,000 while its total revenue is$8 million. The EBITDA margin is 10%. Company B has an EBITDA of $960,000 and a total revenue of$12 million for a margin of 8%.
This means that while Company B demonstrates higher EBITDA, it actually has a smaller margin than Company A. Therefore, an investor might see more potential in Company A.
Example of EBITDA
Consider Home Depot's Form 10-Q for Q3 2023. The company recorded net sales of $37.7 billion and operating income of $5.4 billion. The company's operating margin was 14.34% for the quarter. EBITDA was $6.23 billion for Q3 2023, and the EBITDA margin was 16.53%.
These margins can be compared to those of competitors like Lowe's to measure the relative operating efficiency of the businesses. Lowe's recorded net sales of $20.47 billion for Q3 2023 and an EBITDA of $3.23 billion for an EBITDA margin of 15.78% for Q3 2023. Home Depot might be more attractive to an investor because of the higher EBITDA margin.
What Is EBITDA in Simple Terms?
EBITDA is a firm's earnings before interest, taxes, depreciation, and amortization are deducted.
Why Is EBITDA Important?
EBITDA tells investors how efficiently a company operates and how much of its earnings are attributed to operations.
How Do You Calculate EBITDA?
EBITDA is calculated by adding interest expenses, taxes, depreciation, and amortization to net income.
What Does EV to EBITDA Multiple Mean?
EV to EBITDA multiple, also known as the enterprise multiple, determines the value of a company. It is calculated by dividing a firm's enterprise value (market cap + debt - cash and equivalents) by EBITDA.
What Does a Decrease in EBITDA Mean?
There are various reasons why a firm might experience a decrease in EBITA. Generally, a decrease in EBITDA may indicate low profitability and cash flow problems.
The Bottom Line
EBITDA stands for earnings before interest, taxes, depreciation, and amortization, and it can be a useful way to measure how efficiently a company is operating and how it compares to competitors.
The EBITDA margin can be calculated by dividing the EBITDA by total revenue. These figures are used when conducting financial analysis, but they are not part of generally accepted accounting practices due to details— such as some expenses—that are not included.
FAQs
The Bottom Line
What does EBITDA margin tell you about a company? ›
What is EBITDA Margin? EBITDA margin is a profitability ratio that measures how much in earnings a company is generating before interest, taxes, depreciation, and amortization, as a percentage of revenue. EBITDA Margin = EBITDA / Revenue.
Why do investors look at EBITDA? ›
EBITDA margins provide investors with a snapshot of short-term operational efficiency. Because the margin ignores the impacts of non-operating factors such as interest expenses, taxes, or intangible assets, the result is a metric that is a more accurate reflection of a firm's operating profitability.
Is 20% EBITDA margin good? ›
A “good” EBITDA margin is industry-specific, however, an EBITDA margin in excess of 10% is perceived positively by most.
Is 30% a good EBITDA margin? ›
SaaS industry EBITDA margin averages
The average EBITDA margin of more than 300 software (systems and applications) companies in the U.S at the start of 2023 was 29%. If your startup has an EBITDA margin of 30% or higher, you're tracking to SaaS industry averages and doing great.
What is a good EBITDA for a company? ›
A good EBITDA margin is relative because it depends on the company's industry, but generally an EBITDA margin of 10% or more is considered good. Naturally, a higher margin implies lower operating expenses relative to total revenue, while a low or below-average margin indicates problems with cash flow and profitability.
Is 40% EBITDA margin good? ›
The “Rule of 40” in SaaS valuations is a rule of thumb used to assess a company's financial health and growth potential. It suggests that the sum of a company's top line year over year growth rate (annual recurring revenue growth percentage) and its EBITDA margin should ideally be at least 40%.
Why is EBITDA misleading? ›
EBITDA is an oft-used measure of the value of a business. But critics of this value often point out that it is a dangerous and misleading number because it is often confused with cash flow. However, this number can actually help investors create an apples-to-apples comparison, without leaving a bitter aftertaste.
Does EBITDA include owner salary? ›
As mentioned above, the main difference between EBITDA and SDE is that SDE includes the owner's salary and personal expenses. The EBITDA calculation does not include the salary of the business owner.
What is EBITDA for dummies? ›
EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. It is a financial metric used to measure a company's operational performance and profitability by excluding non-operating expenses and accounting factors.
Since EBITDA shows income before non-cash expenses (expenses like depreciation and amortization that are recorded on an income statement without any cash changing hands), it's a better indicator than net income of a business's ability to bring in cash.
What is a healthy EBITDA number? ›
1 EBITDA measures a firm's overall financial performance, while EV determines the firm's total value. As of Dec. 2023, the average EV/EBITDA for the S&P 500 was 15.28. 1 As a general guideline, an EV/EBITDA value below 10 is commonly interpreted as healthy and above average by analysts and investors.
Which industry has the highest EBITDA margin? ›
Industries with highest EBITDA margin
| Industry | Average EBITDA margin | Number of companies |
|---|
| REIT - Healthcare Facilities | 54.8% | 15 |
| Oil & Gas E&P | 49.3% | 64 |
| Utilities - Regulated Water | 48.1% | 12 |
| Financial Data & Stock Exchanges | 48.1% | 10 |
6 more rowsEBITDA, or earnings before interest, taxes, depreciation, and amortization, is an alternate measure of profitability to net income. By including depreciation and amortization as well as taxes and debt payment costs, EBITDA attempts to represent the cash profit generated by the company's operations.
How to interpret EBITDA margin? ›
The EBITDA margin is a measure of a company's operating profit as a percentage of its revenue. EBITDA margin is calculated by dividing EBITDA by total revenue. EBITDA margin lets investors and financial analysts easily compare the profitability of multiple companies in the same sector or industry.
What is a good EBITDA margin for a small business? ›
Generally speaking, a good EBITDA margin for manufacturing businesses falls between 5% and 10%. However, this will vary depending on the specific industry you are manufacturing your products for, and how capital-intensive your operations are.
What is a good EBITDA margin by industry? ›
Industry Averages EBITDA Margin
| Industry | Average EBITDA margin | Number of companies |
|---|
| Internet Retail | 5% | 22 |
| Leisure | 11.8% | 23 |
| Lodging | 15.9% | 9 |
| Luxury Goods | 9.4% | 5 |
126 more rowsTo compute the Enterprise Valuation of a business, you take the EBITDA amount and multiply it by an enterprise multiple to get the total enterprise value. The enterprise multiple is dictated by the business' industry, the cost of capital, and the overall health of business.
Why is EBITDA important for a company? ›
EBITDA indicates how well the company is managing its day-to-day operations, including its core expenses such as the cost of goods sold. As such, it is a very fair indicator of a business's current state and potential. In some cases, it is much fairer than either gross profit or net income.
How do you interpret EBITDA ratio? ›
A low EBITDA-to-sales ratio suggests that a company may have problems with profitability as well as its cash flow, while a high result may indicate a solid business with stable earnings. Because the ratio excludes the impact of debt interest, highly leveraged companies should not be evaluated using this metric.
