Glossary
EBITDA
EBITDA, earnings before interest, taxes, depreciation and amortization, is a measure of a company's operating profitability that excludes financing costs, income taxes and non-cash charges for the wearing out of assets. It is the most common earnings base for valuing middle market companies and for setting leverage limits in loans.
Formula
Example
A manufacturer reports net income of $2,000,000, interest expense of $500,000, income taxes of $700,000, depreciation of $1,100,000 and amortization of $200,000. EBITDA = $2,000,000 + $500,000 + $700,000 + $1,100,000 + $200,000 = $4,500,000. A buyer paying 7.0x would value the company at $31,500,000 of enterprise value, and a lender capping leverage at 3.5x would lend up to $15,750,000.
How it is used in underwriting
EBITDA lets buyers and lenders compare operating performance across companies with different capital structures, tax situations and depreciation policies. In M&A, enterprise value is often quoted as a multiple of EBITDA. In leveraged lending, total debt divided by EBITDA sets leverage limits, and EBITDA divided by interest or fixed charges sets coverage covenants. Underwriters start with reported EBITDA, then build adjusted EBITDA through a quality of earnings review, and test how much debt the business can carry under a downside case in which EBITDA declines.
EBITDA is not cash flow. It ignores capital expenditures, working capital investment, cash taxes and debt principal, so a capital-intensive business can show strong EBITDA while consuming cash. Underwriters therefore look at EBITDA minus capex, free cash flow and fixed charge coverage. Definitions in credit agreements often allow add-backs that inflate covenant EBITDA beyond what the business actually earns, so read the definition carefully. Lease accounting changes can also shift rent expense out of EBITDA for some companies. For small owner-operated businesses, SDE is usually more relevant, and in real estate the comparable measure is NOI.
Typical benchmarks
Lenders often limit senior leverage in middle market loans to roughly 2.5x to 4.0x EBITDA, with total leverage higher in sponsor-backed deals. Valuation multiples vary widely by industry, size and growth.
Frequently asked questions
Why do buyers use EBITDA instead of net income?
Net income is affected by financing choices, tax strategy and depreciation methods, which a new owner may change. EBITDA strips those out to show the earnings power of the operations themselves, making companies easier to compare and giving buyers a base for pricing a deal regardless of the seller's capital structure.
Is EBITDA the same as cash flow?
No. EBITDA ignores capital expenditures, changes in working capital, cash taxes and debt repayment, all of which consume cash. A company can report solid EBITDA while burning cash if it is investing heavily in equipment or inventory. Underwriters convert EBITDA to free cash flow before judging debt capacity.
What is a good EBITDA multiple?
There is no single good multiple. Smaller private companies typically trade at lower multiples than larger ones, and businesses with recurring revenue, high margins and strong growth command higher multiples. Buyers compare against recent transactions in the same industry and size range rather than relying on a general rule.
Related terms
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