Thursday, August 20, 2009

MasterHowto: EBIT Information is Useful for Investors

EBIT stands for Earnings before Interest and taxes. It is simply defined as a corporation’s profit for a particular period before taking interest and tax payments into account. EBIT is used within financial and business accounting to know the extent of profitability that excludes taxes and income tax as well. The way to know EBIT is by reducing the total operating revenue with operating expenses plus no operating income given. Operating income is considered the same as EBIT, which is obtained from the difference between operating revenue and operating income.

Sometimes there is a misunderstanding about the use of EBIT and EBITDA. Since there are key component that define the position of cash flow; first, company’s profits, second, required investment to achieve the expected cash flow. Required investment means the amount of company’s expenditure to obtain the planned level of profitability. Regarding to the two components, EBIT include the factor of depreciation and amortization as well. EBITDA stands for Earnings before Interest, Tax, Depreciation, and Amortization. Accordingly, it excludes the depreciation and amortization while focusing on the profitability level of a company only without taking the required investment value into account.

EBIT information is very useful when an investor would like to assess the level of expediency and economic prospect of a company. Generally, investors start looking at the position of company’s fundamental earning potentials in order to see the optimal management of debt and given equity. Investors prefer EBIT to net profit due to the fact that it doesn’t give a better impression on company’s performance which is usually taken from the ability to cut tax bill. EBIT simply reveals how profitable a company is from its operational standpoint to run the business from day to day.

We cannot deny that some people give critics to EBIT information using in relations to the need of company’s profile in details. It is because EBIT never consider the leverage and debt into expected attention of financial status. According to critics, many companies tend to reap more much after taking certain amount of debt by which they attract the investors. No matter how much interest rate of liabilities has to be paid on a monthly basis, this amount will not be shown on the EBIT information report. It is worried that companies will play with the debt exclusion from the financial status to cover the ‘pseudo’ liquidity of assets. That’s why EBIT is preferably used to be the tool of evaluating the operating profit of companies.

Since cash flow constitutes an important part of companies, EBIT plays better to help analyze the profitability level unlike EBITDA which excludes the required investment of companies to achieve the profit. Aside from the critics over the exclusion of debt or the so-called leverage of companies within EBIT, we can simply define two historical conditions; companies with bad historical loss, and second, companies with good historical profit. The simplicity will help ease investors to fine the alternative for their investment. Whether a company deserves an investment of nor, investors simply need to read the given EBIT information.

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