Adjusted EBITDA definition
/What is Adjusted EBITDA?
Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) introduces additional elements into the standard EBITDA calculation; it subtracts all non-cash charges for share-based compensation, as well as other one-time expenditures. This approach is used to normalize the reported results of the companies included in an industry analysis. The use of adjusted EBITDA is especially important when a business regularly engages in the use of stock options that comprise a significant part of the compensation packages of its employees, since the resulting expenses do not result in out-of-pocket negative cash flows for the business.
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The Interpretation of Financial Statements
How to Calculate Adjusted EBITDA
The full calculation of adjusted EBITDA is noted below:
Net income – Interest expense – Income tax expense – Depreciation expense – Amortization expense – non-cash charges for share-based compensation – One-time litigation expenses
= Adjusted EBITDA
The formula can be adjusted further to include any unusual, one-time expenditures. In the preceding formula, we included one-time litigation expenses as an example of such items. These adjustments are made when a business wants to enhance its reported cash flows in order to maximize the valuation of the business – typically as part of an effort to sell the firm.
Presentation of Adjusted EBITDA
Adjusted EBITDA does not appear on an organization’s financial statements. Instead, the various elements of it must be extracted from a company’s financial statements and related disclosures, and assembled into the calculation. Given the variability of the contents of the calculation, it can be useful to document the contents of the calculation in an accompanying footnote.