The commonly used acronym EBITDA, "earnings before interest taxes depreciation and amortization," is an accounting expression applied to business profit and loss reports. The 'before' means calculation of a company's earnings - also described as 'net earnings' or 'net profit' - prior to deductions for business expenses that are not directly related to its operation. Instead, they are discretionary expenses that a business owner chooses to claim as costs of doing business to reduce the earnings subject to income tax. As this calculation is discretionary to the business owner, he or she will use different figures for each of the four items, or may assign no amount to them at all, compared to the values applied to them by previous or subsequent owners of the same business.
For example, the EBITDA reported by the owner of a market was: $1,200.00 paid last year for interest charged on the loan he received to help fund purchase of the business; $6,640 submitted with federal and state tax returns owed on income generated the prior year; $750 listed on the company's depreciation schedule, representing the annual decline in market value of the refrigeration system, freezers and other capital equipment used in the business; and $3,600 calculated for annual amortization (write-off) for each of the five year life of the $18,000 covenant not to compete the owner purchased from the prior owner as part of the price paid for the business.
The sum of these items, $12,190, was deducted from the total of $64,382 that remained for the owner's personal use last year. That remainder, EBITDA, was determined after subtracting, from the store's gross income, the costs of purchases for all inventory needed for sale to customers, payroll and related labor costs, rent, utilities, insurance, maintenance, professional fees and the other expenses incurred in order to conduct business. After the deductions, the owner showed $52,192 in taxable income, requiring a lower tax payment than had those deductions not been entered on the books.
The reason earnings are calculated both ways, before and after those deductions, is so that when selling the business the owner can demonstrate that a new owner, may collect the higher figure, the EBITDA, and then choose which of any of those deduction categories he or she wishes to use when computing taxable income.