EBITDA—which stands for earnings before interest, taxes, depreciation, and amortization—came into wide use among private capital firms calculating what to pay for a business.
The private capital firms that originally employed EBITDA as a useful valuation tool removed interest, taxes, depreciation, and amortization from their earnings calculations in order to replace them with their own presumably more precise numbers:
- They removed Taxes and Interest because they wanted to substitute their own tax-rate calculations and the financing costs they expected under a new capital structure.
- Amortization was excluded because it measured the cost of intangible assets acquired in some earlier period, including goodwill, rather than any current expenditure of cash.
- Depreciation, an indirect and backward-looking measure of capital expenditure, was excluded and replaced with an estimate of future capital expenditure.
Later, many public companies, analysts and journalists have urged investors to also use EBITDA as a measure of the cash public companies generate. EBITDA is often compared to cash flow because it rightfully adds back to net income two major expense categories that have no impact on cash: depreciation and amortization.
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http://www.valuebasedmanagement.net/methods_ebitda.html
posted by srikanth....july10
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