Business Plan-What is EBITDA?
You know, another financial term that an entrepreneur may hear when they start the capital raising process and start to communicate with our investors that they may not typically hear is a term called EBITDA.And what is EBITDA?Well, EBITDA is really an acronym.It stands for "earnings before interest, taxes, depreciation, and amortization."The second question is usually why is it important?Well, what EBITDA does is it strips away a lot of the structural and non-cash expenses associated with the company.It really allows and investor to make and apples-to-apples comparison of two different companies.
The question usually comes up, well aren't interest, amortization, and depreciation all legitimate expenses? Yes, they are, and interest and taxes, those are cash expenses. But at the end of the day, those expenses are more structural than they are operational.So, what our investors try to do when they are trying to get a real sense of the company and the earnings potential is strip away all of those structural expenses and look at the real income generated by the operations.That will allow that to make some really apples-to-apples comparisons against another company they may be considering for investment.
A couple of watch-outs regarding EBITDA.It should not be used as an inference of cash flow.That is always a temptation, but it should not be used as an inference of cash flow, because EBITDA comes from the income statement.An income statement is very susceptible to interpretation of accounting principles and gap guidelines.I would caution anyone against using it as an inference of cash flow.Second thing about EBITDA is that it is also a good internal metric for management in that it shows management the performance of the company within their boundaries of influence.
If an entrepreneur has any questions about EBITDA, would like to really dig into EBITDA, understand it, and maybe do some EBITDA calculations for their own company, I would encourage them to give us a call. Because at the end of the day, we see this a lot, and we are here to help maximize our entrepreneurs opportunity to get funded.
