If you are looking to analyze how profitable your business is, you may have come across the term’s EBIT and EBITDA. Although these two terms share some similarities, there are differences in their calculations that leads to different results. Here is what you need to know about EBIT vs. EBITDA.
What Is EBIT?
EBIT stands for earnings before interest and taxes. It represents earnings that have interest and taxes added back to them.
Earnings refers to net income, interest includes interest payments made on credit or loans, and the taxes compromise of whatever dollar value your company needs to pay in state and federal taxes.
EBIT allows investors to see a different perspective of a company’s finances and ability to generate revenue. It also can help show which business ideas are actually making money.
This is the formula to calculate EBIT:
Net Income + Interest Expense + Tax Expense = EBIT
What Is EBITDA?
EBITDA shows how profitable a company is based on its operations and stands for earnings before interest, taxes, depreciation, and amortization.
EBITDA is commonly used by investors, buyers, and owners to compare the valuation of a business.
This is the formula to calculate EBITDA:
Net Profit + Interest + Taxes + Depreciation + Amortization = EBITDA
Key Differences Between EBIT vs. EBITDA
- EBIT reveals accrual basis of the business operations and EBITDA gives an estimation of the cash flow generated by business operations.
- EBITDA is likely to be used to develop a company valuation for acquisition.
- EBITDA is useful for firms with heavy capital investments.
- The higher the depreciation/amortization, the wider the gap is between EBIT vs EBIDA.
It is important to note that neither metrics are GAAP approved and are not part of a firm’s cash flow or income statements.
When to Use EBIT vs. EBITDA
So, which one should you use? EBITDA is good for a company with low capital expenditures. EBIT is more appropriate for capital-intensive industries such as mining, oil, and gas, and infrastructure.
The Bottom Line
EBIT and EBITDA are important metrics to help analyze the financial performance of a company. The main difference between the two is that EBITDA adds back depreciation and amortization where EBIT does not. EBIT considers a company’s approximate amount of income produced while EBITDA is a snapshot of a company’s overall cash flow. Although they are both different, they are information when analyzing a company’s financial performance.