What is ebitda and how does it work?
Hello,
I'm a high schooler(ah shit here comes the MS) and wanted to learn more about what EBITDA is how it works? The main topics I don't understand is how Depreciation Amortization work. If someone could take the time to explain out of their busy schedule I'd be really thankful. I figured I'd ask here since you guys literally work with this nearly everyday.
Imagine you bought a new car for 5000$. So, car costs/worth 5000$. You travel with this car all day long. Suppose, that 10 years passed.
-How much will this car cost after 10 years? -5000$?
-No.
The car will now cost less than 5000$ because it has been used quite a while. Depreciation shows how much of its value does a fixed asset (plant, machinery, vehicles) lose over time.
Amortization is the same thing just it is used for non-tangible assets (software etc.)
EBITDA means earnings before interest, tax, depreciation, and amortization, and which is useful to understand company's financial performance.
If you want detail, just google it, there is a plenty of good articles/videos about these topics which explain concepts in a plain language.
Google is a thing yknow
Ya make money, you pay the guys who helped ya make money, before you pay for the repairs on the thing that made you money and before the interest of loans and taxes what's your return?
I don't get why people on this forum are so condescending sometimes
What is EBITDA and why is it useful:
Depreciation is how we spread the cost of a long-term investment over its useful life. Amortization is the same thing but for intangible assets like intellectual property.
Say we buy a truck for $20,000 in 2021 and we expect it to last 5 years. Rather than burdening 2021's financials with a $20,000 expense, we will spread the expense over the useful life of the asset.
So when we purchase the truck, we put the truck on the balance sheet as an asset with a book value of $20,000 (the amount we purchased it for).
Each year, we will expense on the income statement the portion of the car we attribute to that year, in this case, $4,000 ($20k cost over 5 year useful life), this will decrease the book value of the truck by the amount we depreciated it.
The theory behind EBIT (aka OPERATING income) is that we want to compare companies that have different capital structures (varying levels of debt). So we take the earnings of the company, and we bring it before interest and taxes, since those are reliant on the amount of debt the company has. This gives us EBIT, a metric that is comparable across capital structures. However, we also know that D&A are non-cash expenses (i.e. we expense $4,000 per year for depreciation but we're not actually paying $4,000 per year in depreciation, that is simply accounting), so we back out D&A to get to a more "cash-based operating income", EBITDA.
This is why EBITDA is a proxy for free cash flow. We know that in finance, cash is king, so we want to value a business based on how much cash it generates. Calculating real free cash flow takes extra steps, but EBITDA is an easy proxy to calculate, simply operating income (EBIT) + D&A. This is why we reference EBITDA is because it is a quick proxy for cash flow. That is why it is useful.
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