Recently, I have reviewed financial data from other Brokers which included the EBITDA for the business. Unfortunately, the data disconnects with the true definition of this acronym. So let’s begin with the basics.
EBITDA is
Earnings,
Before
Interest,
Taxes,
Depreciation and
Amortization, again
EBITDA. That does not include owner’s salary, rent or any other expense of the business.
EBITDA is a very objective number that can indicate the strengths or weaknesses of a business. It is true that Owner’s Salary of a privately held business could be excessive in relation to the prevailing compensation required for the Owner’s role in the business, but please don’t spoil the integrity of what EBITDA means in the financial data from a business. An opinion of value can be derived from the EBITDA data, along with the value of a business arrived at from a more subjective number like “Cash Flow” or “Discretionary Cash Flow”. So if you are presented with financial information from a business and someone is representing EBITDA as something other than
Earnings,
Before Interest,
Taxes,
Depreciation and
Amortization do your own calculations. The information can be easily picked up from a P&L or Tax Return and can be readily identified. EBITDA is objective, Cash Flow is subjective. Both are used in valuing a business but it is important to clearly understand the difference. More on Cash Flow later. - Dan
