EBITDA
Earnings Before Interest, Taxes, Depreciation and Amortisation — a proxy for a company’s operating cash generation, widely used as the denominator in valuation multiples because it strips out capital-structure and accounting effects.
Why EBITDA matters in interviews
EBITDA is the denominator in the multiple most of finance runs on, and interviewers use it to test whether you treat it as a real cash flow proxy or as an accounting output with known weaknesses. Being able to argue both sides — why sponsors use it and why Buffett calls it misleading — is the answer that separates candidates.
How it works in practice
EBITDA is earnings before interest, taxes, depreciation and amortisation. From net income you add back taxes, interest, and D&A; from EBIT you simply add back D&A.
It is popular because it strips out capital-structure effects (interest), tax-jurisdiction effects (taxes) and historical accounting choices (D&A), making two companies comparable regardless of how they are financed or how aggressively they depreciate assets. That is exactly what a sponsor comparing acquisition targets wants.
In leveraged finance it is the unit of account: debt quantum is quoted as a multiple of EBITDA, covenants are set against it, and "adjusted EBITDA" — with add-backs for one-off costs, run-rate synergies and non-recurring items — is negotiated line by line in a credit agreement.
What candidates get wrong
- Calling EBITDA "cash flow". It ignores working capital movements, capital expenditure, cash taxes and cash interest. A capital-intensive business with high EBITDA can be free-cash-flow negative.
- Accepting adjusted EBITDA uncritically. Add-backs are where sell-side optimism lives, and quality-of-earnings work exists precisely to challenge them.
- Forgetting that adding back D&A implicitly assumes assets never need replacing — which is why EBITDA flatters capital-intensive sectors like telecoms and manufacturing.
EBITDA: frequently asked questions
Why do private equity firms focus on EBITDA?
Because it approximates the cash available to service debt before financing decisions, and because lenders size debt as a multiple of it. A sponsor evaluating a target wants a figure that is neutral to the seller's capital structure and tax position, since the sponsor will replace both after closing.
What is the main criticism of EBITDA?
That it ignores real costs. Depreciation is a proxy for capital that genuinely has to be spent to keep the business running, and EBITDA also excludes cash taxes, cash interest and working capital. For a business that must reinvest heavily just to stand still, EBITDA can overstate economic earnings substantially.
Go deeper
This term comes up constantly in valuation interviews and on the desk.
DCF interview questions guideRelated Valuation terms
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