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EBITD is an accounting acronym that stands for earnings before interest, tax, and depreciation. This acronym also represents a figure located on a company’s income statement; a basic formula for the figure is sales revenue less cost of goods sold and expenses. Companies often exclude interest, tax, and depreciation because the items are not typically generated from the company’s normal operating procedures. For example, interest expense often relates to loan on debt used to purchase assets, taxes are sunk costs paid to the government, and depreciation is a non-cash expenditure related to long-term assets.
In many cases, EBITD represents the cash flow a company generates from business operations. Net income is an accounting figure that only represents the amount of profit earned by the company. Income does not translate to the actual economic wealth or cash generated by the company. This happens because of the non-cash expenses like depreciation and interest expenses from loans — two of the key components found in EBITD. This figure interests individuals and businesses that desire to invest money into a company.
Most investors desire companies to have a strong positive history of EBITD. This figure tends to indicate that a company has strong business operations that will consistently make money, which can then be used to repay investors in the form of dividends. Investors who do not desire dividends as a form of repayment on their capital will want the company to have high profits for reinvesting to the company. This allows the firm to expand its operations and generate more profits, increasing its future EBITD and raising the company’s share price. The price increase in shares will result in higher investment returns for individuals and businesses.
Another reason for the importance of EBITD is for the assessment of the company’s operations by owners and managers. Companies in the early growth or rapid expansion stages will often have copious amounts of debt used to purchase long-term assets, such as buildings, vehicles, equipment, and other machinery. This leads to high interest expense payments and depreciation relating to the long-term assets. By including these expenses in the income statement, the company may look worse in terms of profit. However, the added expense is not necessarily bad; it just means that the company has to repay the borrowed money. Owners and managers will often use a return on equity ratio to determine how well the company generated profits on itsr operations. This formula is revenue generated from an internal investment less the initial capital outlay divided by the initial capital outlay.
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