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Earnings before tax, or EBT, is the amount of collected revenue received by a company, less all company expenses, before taxes are set aside from that revenue. The goal of most companies is to generate an acceptable amount of earnings before taxes, making it possible to not only comply with current tax laws in terms of meeting tax obligations, but also generate some amount of net profit once all currently due debts are retired. A company that posts a healthy rate of earnings before tax is more likely to weather tough economic periods, since that company has the ability to create cash reserves that aid in managing any temporary shortfalls caused by an economic downturn.
It is important to note that earnings before tax is not the same as earnings before interest and taxes, or EBIT. With the former, any money paid for interest is included in the final figure, while the latter also removes that interest from the earnings. Both approaches are useful in understanding the current financial position of a company, and many businesses will calculate EBIT first, then subtract the interest in order to determine the earnings before tax amount.
Analysts consider earnings before tax important, since the figure indicates the ability of a given business to pay off debt obligations from cash on hand in the event that the company is liquidated for any reason. A company that enjoys a reasonable amount of earnings after paying its monthly obligations is more likely to be in a position to honor its long-term debts. Companies of this type are generally considered better risks for loans or lines of credit, and are likely to receive a better rate of interest from lenders.
Investors tend to look closely at earnings before tax, since this figure provides important clues regarding the financial stability of the business. A business that is on a sound financial basis means that the securities issued by that company are more likely to perform well in the investment market. The periodic shifts in the level of earnings before taxes are deducted can often provide clues related to what type of return an investor can expect.
When those earnings before tax are more or less the same from one period to the next, this is a signal to investors that the return is likely to be steady and carry a limited amount of volatility. When the earnings before taxes in successive periods tend to increase and decrease, this is an indicator that the return will vary from time to time. Investors can evaluate this movement and determine if investing in that particular company is a good fit for their personal investment goals.
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