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EBITDA is a metric that helps business owners and their professional advisers to compare a company’s profitability against other similar businesses, and is often used when valuing a business for sale.

Sometimes the metric is viewed synonymously with cash flow but in reality there’s considerable difference between the two, in both calculation and the implications behind the results.

So what are the main differences between cash flow and EBITDA, and when would a business use them?

What is EBITDA?

EBITDA is an acronym that stands for Earnings Before Interest, Tax, Depreciation, and Amortisation. It’s been widely used in business since the 1980s, and indicates a company’s capability to generate cash without certain liabilities and expenses affecting the results.

Interest, tax, depreciation, and amortisation, are all removed from the earnings figure leaving a pared down view of profitability and cash generation, with items removed that aren’t directly associated with operational activity.

What is cash flow?

Cash flow analysis incorporates all monies going into and out of a company’s books, including interest, tax, depreciation, and amortisation. Capital spending is accounted for, and because nothing is omitted it offers a more comprehensive picture of business financial health overall.

This inclusion of working capital is particularly relevant for asset-rich businesses, or those that are highly leveraged, as depreciation, amortisation, and loan interest, are all essential and significant expenses that affect a company’s liquidity and financial wellbeing.

"EBITDA is an acronym that stands for Earnings Before Interest, Tax, Depreciation, and Amortisation."

What are the differences between EBITDA and cash flow?

  • EBITDA omits interest, tax, depreciation, and amortisation, from the calculation, whereas cash flow analysis includes all these elements
  • Cash flow analysis can reveal financial mismanagement, but this can be masked using the EBITDA metric
  • Cash flow offers a broad view of a company’s cash generation, and how this cash is used. This perspective is limited using EBITDA although the value, liquidity, and potential of a company can be estimated.
  • EBITDA isn’t regulated under UK GAAP (Generally Accepted Accounting Principles), unlike cash flow analysis
  • Capital expenditure is taken into account with cash flow when analysing a company’s overall position, but it isn’t with EBITDA

When would cash flow and EBITDA be used?

Cash flow

Cash flow analysis may be used to provide a comprehensive view of a company’s financial health during a specific period, and falls under UK GAAP regulation. It’s inclusion of working capital means estimates of future liquidity can be made with relative reliability as essential elements of operational activity – interest, tax, depreciation, and amortisation, are incorporated.

EBITDA

Calculating EBITDA can provide a useful comparison for valuers and potential buyers between companies with similar business models, or those operating in the same industry. In essence, if an EBITDA margin is higher than competitor businesses it’s a positive result.

The metric is commonly used as a valuation tool and provides a deeper view of operational accomplishments, strengths, and weaknesses, for finance professionals and prospective purchasers. 

Although it commonly receives criticism for over-use, EBITDA has its place in financial analysis as long as the calculation doesn’t distort reality, and the results are read with awareness and understanding of the potential pitfalls of using the metric.

If you need more information on using EBITDA and cash flow analysis in your business, RBR Advisory can help. We’re corporate finance professionals and offer specialist advisory services to companies in all industries. Call one of our partner-led team to arrange a free same-day consultation – we operate an extensive network of offices throughout the UK.

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