Net Income vs EBITDA: What’s the difference?

When comparing companies within the same industry, it’s common to see these two figures appear side by side in financial reports, such as 10-Ks and annual reports. EBITDA and net income are popular ways of looking at a company’s profitability, but they can be confusing if you don’t know what each figure represents.

Read on to learn the difference between EBITDA and net income, why it matters, and how you can use this information to make smarter investment decisions.

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Main Difference

What is the difference between net income and EBITDA? Net income is a company’s total earnings (or profit); it includes interest and taxes. EBITDA is Earnings before interest, taxes, depreciation, and amortization. So, EBITDA gives you a better idea of a company’s operating cash flow.

EBITDA can be used to measure and compare profitability among companies and industries because it eliminates some non-operating items that can vary widely from one company to the next. For example, two companies in the same industry could have very different depreciation schedules for their fixed assets. Depreciation is a non-cash expense, so it doesn’t affect operating cash flow but reduces net income.

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What is EBITDA?

EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. This is a financial metric that many companies use to measure their profitability. In essence, it shows how much money a company makes before accounting for any expenses.

What is Net Income?

Net income is the amount of money left over after paying all of a company’s expenses. This number is often referred to as “profit” and is calculated by subtracting operating expenses (like rent) from revenue.

Differences between Net Income and EBITDA

The difference between these two numbers is that net income takes into account all of a company‘s costs, while EBITDA does not. For example, if taxes are owed on money made in a given year, those taxes would be considered part of net income but not part of EBITDA. Likewise, expenses like depreciation which are necessary for upkeep but don’t show up as direct cash outlays, would be counted as part of net income but not as part of EBITDA.

Key Differences Between EBITDA and Net Income

  1. EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization. It’s calculated by taking net income (profit) and adding back interest expense, taxes, depreciation, and amortization.
  2. Net income is the amount left over after subtracting expenses from revenue.
  3. EBITDA is a good indicator of how profitable a company is. If a company makes $100 million in profit but only spends $50 million, then its EBITDA would be $50 million. Companies use EBITDA to determine if they’re making enough money to cover their costs.
  4. Net income is not always a good measure of profitability. A company could have a lot of expenses yet still make a small profit. In this case, its net income would be positive while its EBITDA would show a loss.
  5. EBITDA helps compare companies across industries and sectors. For example, a retail store might spend $500,000 per year on rent, utilities, and salaries, whereas a restaurant chain may spend $1 million on those same things. However, the restaurant chain would likely generate much higher revenues than the retail store. So even though the retail store spent less on each dollar of revenue, it generated more revenue. As a result, the retail store’s EBITDA was lower than the restaurant chain’s.
  6. Net income is often used to compare a company’s performance over time. For example, if a company had a net income of $1 million last year but lost $200,000 this year, then its net income would be negative. But if it earned $1 million this year and lost $300,000 last year, then its net earnings would be positive.
  7. Net income is also used to compare a company to competitors. If a company earns $1 million in net income, but its competitor earns $1.5 million, it is doing well compared to its competition.
  8. EBITDA helps compare companies’ financial statements. For example, if two companies have similar net incomes, but one company’s EBITDA is $1 million, and the other’s is $1.5 million, the first company is probably more profitable than the second.
  9. Net income is used to calculate a company’s return on equity (ROE). ROE measures how efficiently a company uses capital. To calculate ROE, divide net income by total shareholders’ equity.
  10. EBITDA calculates a firm’s return on assets (ROA). ROA measures how effectively a company uses its assets. To calculate ROA, divide EBITDA by total assets.

Earnings Before Interest, Taxes, Depreciation, Amortization (EBITDA)

This metric is often used to assess a company’s financial health and performance because it strips out all non-operational expenses that can skew net income. So, for example, if your company has $1 million in revenue and $2 million in costs but $3 million in depreciation expense, your net income would be -$1 million.

On the other hand, if you subtract depreciation from your equation, you’ll see that you’re still making money even though you’ve had some non-operational expenses like interest or taxes.

Earnings Before Interest and Tax (EBIT)

EBIT is a measure of a company’s profitability that includes only those items that are directly related to the company’s operations. This metric excludes interest expenses, taxes, and other non-operating items.

For example, if a company pays out $100 in dividends per share but reports $120 in net income per share, then their net income would be reported at $120, while their earnings before interest and tax (EBIT) would be reported at $200 ($100 + $120).

Earnings before tax (operating income)

The main difference between EBITDA and net income is that net income includes all income and expenses, while EBITDA only includes operating expenses. This means that net income is a more accurate measure of profitability. However, because EBITDA excludes non-operating expenses, it can be used to compare companies of different sizes.

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Profit Before Tax

Most businesses aim to profit, but there are different ways of measuring this. Two common measurements are Profit Before Tax (PBT) and Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA). PBT is simply revenue minus expenses. This measure doesn’t take into account things like depreciation, which can be a significant expense for some businesses. EBITDA, on the other hand, adds back to these expenses.

Conclusion

You should take away two things from comparing EBITDA vs. net income. First, even though both figures are essential to your business’s success, they don’t tell you exactly how much your company is making or losing in a given period. Second, suppose your company has an accounting method that calculates depreciation, amortization, and interest expenses differently than straight-line depreciation or simple interest expense methods (or doesn’t depreciate any assets). In that case, these numbers may not be comparable. Third, if you want to compare apples-to-apples with other companies or industries, always look at these figures on a per share basis and overall earnings per share.