Chances are you’ve heard the term EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) tossed around in financial conversations. But what exactly is this acronym, and why should startups measure their EBITDA?
What is EBITDA?
EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization:
- Interest – Business expenses from interest on loans from banks, investors, and other lenders
- Taxes – Any federal, state, or local taxes
- Depreciation – The distribution of the value of tangible assets like cash, real estate, equipment, software, and inventory over their useful life
- Amortization – Similar to Depreciation, but distributes the value of intangible assets over their useful life (think patents, trademarks, and R&D expenses)
Why Should Startups Measure EBITDA?
EBITDA is often used as a measure of profitability because it removes key expenses that don’t directly affect your company’s operating performance. Removing these expenses from the picture gives a more accurate assessment of the profit being generated by the business, unskewed by factors like debt or upfront costs.
EBITDA removes key expenses that don’t directly affect your company’s operating performance.
It also helps investors evaluate the value of companies with different capital structures and tax rates. EBITDA lets investors “compare apples to apples”.
EBITDA lets investors “compare apples to apples”.
The Benefits of Measuring EBITDA
Measuring your startup’s EBITDA provides a few important benefits:
- Cash Management – First and foremost, EBITDA provides an accurate picture of how much operating profit your company generated after accounting for all necessary expenses. It helps you make the best decisions about allocating funds going forward.
- Fundraising – EBITDA is an important metric when it comes time to raise your next funding round. It gives potential investors a picture of their potential returns.
- Stakeholder Alignment – Measuring EBITDA helps keep everyone on the same page when it comes to understanding where the company stands financially—both internally and externally.
Calculating Your Startup’s EBITDA
You can calculate your startup’s EBITDA based on either net income or operating income:
EBITDA = Net Income + Taxes + Interest Expense + Depreciation & Amortization
EBITDA = Operating Income + Depreciation & Amortization
Measuring your startup’s EBITDA is essential for making intelligent decisions about how to allocate funds and grow your business over time. This metric provides an accurate picture of how much revenue your company generated after accounting for all necessary expenses and helps potential investors understand what kind of return they would get if they invested in your business down the line. When used correctly and consistently measured over time, tracking your startup’s EBITDA can provide invaluable insights into its financial health and operating profit.
Burkland’s Startup Accounting team has helped hundreds of venture-backed startups measure and improve their EBITDA and other key financial metrics. Contact us to request more information about how we can help your startup.