What is EBITDA Margin? Why do investors need to understand it deeply?

Confusing Numbers: What Is EBITDA Really?

EBITDA (Earnings Before Interest, Tax, Depreciation, and Amortization) or earnings before interest, taxes, depreciation, and amortization, is a metric widely used by investors to assess a company’s profitability potential.

But interestingly, legendary investors like Warren Buffett have a different perspective. He sees that EBITDA does not provide a complete picture of a company’s financial health because it omits expenses that truly impact cash flow.

This viewpoint raises an important question: if Warren Buffett disagrees with EBITDA, why do most investors still use it as part of their analysis? The answer lies in understanding its value and limitations.

How to Calculate and What EBITDA Means

Basic Formula

EBITDA = Profit Before Tax + Financial Expenses + Depreciation + Amortization

or calculated from:

EBITDA = EBIT (Operating Profit) + Depreciation + Amortization

Real Calculation Example

From the financial statements of Thai President Foods in 2020:

• Profit Before Tax: 5,997,820,107 THB
• Financial Expenses: 2,831,397 THB
• Depreciation: 1,207,201,652 THB
• Amortization: 8,860,374 THB

Result: EBITDA = 7,216,713,530 THB

This figure indicates the profit generated from core operations before deducting other expenses.

Why Is EBITDA Important to Investors?

EBITDA is useful for comparing companies within the same industry because it eliminates the effects of tax policies and financial structures that may differ.

For example, Company A and Company B are in the same sector, but Company A has more debt (higher interest), while Company B has recently restructured its assets (higher depreciation). Using EBITDA helps reveal the true operational potential of both companies more clearly.

Companies like Tesla, SEA Group, and startups often use EBITDA to demonstrate their business capabilities to investors, especially during high-growth phases.

EBITDA Margin: A More Detailed Indicator

EBITDA Margin = (EBITDA ÷ Total Revenue) × 100

This indicator is important because it shows how much profit from operations a company can convert from its revenue.

A good EBITDA Margin should be above 10%. The higher it is, the more efficiently the company controls operating costs and the lower its financial risk.

Comparing multiple companies in the same industry, a higher EBITDA Margin indicates better operational efficiency.

EBITDA vs Operating Income: What’s the Difference?

The main difference is that EBITDA looks at cash flow potential from core business, while Operating Income provides a complete picture of profit after all expenses, including financial costs.

Where to Find EBITDA?

Typically, EBITDA does not appear in standard financial statements, but many companies include it in annual reports to highlight operational profitability.

If a company does not disclose EBITDA directly, investors can calculate it themselves using data from the financial statements, such as the Income Statement and Cash Flow Statement.

Cautions When Using EBITDA

EBITDA Can Be Manipulated

EBITDA can be adjusted by companies, as it includes non-cash expenses. Some firms may expand the definition of “Adjusted EBITDA” to make their numbers look better than reality.

Does Not Reflect True Liquidity

A company might have a high EBITDA but still face difficulties paying debts because this figure does not account for essential expenses like interest and capital costs. After deducting these, remaining profit could be zero or negative.

Not Suitable for Long-Term Analysis

Warren Buffett dislikes EBITDA because it does not reflect the “real cash” a company needs for normal expenses. Expenses like depreciation (which will become cash outflows in the future when assets are replaced) are omitted.

Summary: How to Use EBITDA Appropriately

EBITDA is a useful tool but should not be used in isolation. Consider it as part of a comprehensive analysis process.

Use EBITDA when:

• Comparing companies within the same industry
• Short-term analysis (1-2 years)
• Assessing operational cash flow potential

Along with other indicators such as:

• Operating Income (for a complete picture)
• Net Income (to understand true profit)
• Cash Flow (to verify actual cash)
• Debt Ratio and Capital Utilization Ratios

Good investment decisions require balance: use EBITDA to gauge potential, but also consider Operating Income and Net Income for a full understanding.