Buffet's issues with EBITA (capex, depreciation)
Hi all,
Buffet and Munger make the point that EBITDA is an incomplete measure because depreciation is a real expense.
They allude to the idea that if Capex or Amoritzed expenses > Depreciation & Amortization, then depreciation matters less. Can someone explain this part to me? Buffet mentions "spending more than depreciation" and this idea is hinted at. Having trouble understanding this part.
Edit: Mainly concerned about the idea of why depreciation matters less if capex is higher, wanna understand the mechanics.
Bump
idc what anyone says, but following Buffet's advice in the present markets (or any market post-2008) is just retarded; seriously, check his returns (risk-adj and non risk-adj) and he's just mid at best. Dude preaches value yet is playing merger arbitrage (don't blame him, he has hella insider info) but he's just out of touch. Like those boomers who talk about what banking was like "back in the day" like yeah bro you started working on Wall Street when rent was only 10% of your income (not an exaggeration), just stfu
Rent 10% of income, the concept of “formatting” didn’t exist and it would take a full day to calculate a WACC from library materials so last minute changes and pointless iteration to v49 of a pitch deck was literally impossible.
Your first point: the way I'd summarize their joint opinion is that EBITDA is an inherently flawed metric of earnings because the D&A is a driver of EBIT, not an excludable expense that helps compare different companies apple-to-apples like I&T are. In essence, their is no EBIT without D&A, which is just CapEx / R&D spread over time.
EBIT, on the other hand, helps provide investors across the capital structure with an idea of how OpCo ABC compares to OpCo XYZ who might operate with varying degrees of leverage in different tax jurisdictions.
he invests in capex heavy businesses so it a pretty important cost
Basically the fact that depreciation represents a real expense which is the depletion of value of a PPE that is needed for a business to function. At some point, that PPE will be fully depreciated and will need to be replaced/upgraded in order for that business to run.
EBITDA, in a way, does not take that fact into account and income generation is independent of the business’s PPE, which actually is critical in helping that business generate income.
When capex is higher than depreciation, it shows that the value of assets lost each year is being replaced/upgraded by assets of greater value. Which means that when old PPE dies, a new one is ready to take its place to continue help the business generate income. That’s why it’s less of a concern in this case.
Obviously from a technical accounting perspective I’m using very dumbed down language here, but I hope my point goes across to help you understand why Buffett has this opinion. There are merits to his thoughts but also I see the point how amortised expenses these days relate to intangible assets that don’t necessarily disappear once it’s fully amortised - basically how his position on EBITDA may not necessarily be relevant to a lot of modern day companies.
Why is it the case that when capex > depreciation, EBITA ( or the depreciation distortion) matters less/more?
Bro that’s like paragraph 3 of my original comment….
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