EBIT Definition: an Acronym for Earnings Before Interest and Taxes
EBIT is a term commercial bankers, investment bankers, Chief Financial Officers and other financial advisors often use as a measure of a business’s earnings from operations. It is an acronym for Earnings Before Interest and Taxes.
- EBIT reveals operating profitability without non-recurring or unusual income or expenses
- EBIT measures operating profitability by eliminating financial expenses a business may incur
- EBIT is helpful when you want to compare several businesses with different tax and/or capital structures
When selling a business, this measurement is very important to investors and buyers and is often included in other financial ratios to determine the business value. As for business owners, it’s also worth keeping track of as it’s an indication of the financial overall health of the business.
EBIT is not a Generally Accepted Accounting Principle (GAAP), however it is a very popular measurement in the financial and investment communities.
How to Calculate EBIT
To calculate EBIT, start with the Net Income or Net Operating Income for the business for a given period of time. Normally, it is a twelve month period and most often either the previous rolling twelve months or fiscal year. The Net Operating Income will appear above the Extraordinary Income or Expenses line on the company’s Profit and Loss Statement, also known as the Income Statement.
Add to the Net Operating Income any Interest Expense incurred by the business such as interest paid to banks, financing companies, vendors, suppliers, lenders, and the business owners;
Also add to the Net Operating Income any Tax Expenses paid that are not payroll related. The taxes to add back to the NOI are earnings taxes or taxes associated with income the company earned during the period being measured.
For example, the FICA, Medicare, and Unemployment taxes paid by the company for its employees would not be added back when computing EBIT. Such payroll taxes are ordinary and necessary to operate the business and generate a net profit. Similarly, sales taxes which may be paid or collected and included in the company’s Cost of Goods Sold or Operating Expenses are also not added back to income when computing EBIT. Whereas, the federal, state, and local taxes paid on behalf of the company’s earnings are not part of the business’s operations and are added back to the Net Operating Income.
It’s important to note that when you calculate EBIT, you do not add depreciation and amortization expense. If you do so, you would be computing EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization).
EBIT vs. EBITDA
EBIT and EBITDA are similar, however EBIT measures a business’s earnings from operations and EBITDA measures a business’s cash flow.