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Net income and EBITDA (earnings before interest, taxes, depreciation, and amortization) are both measures of business earnings. But they are not the same thing.
Also known as net profit, net income refers to earnings of a business during a certain period after subtracting all expenses incurred by the company. EBITDA is similar, but doesn’t subtract certain expenses (such as interest paid on debt and non-cash depreciation expenses) from total revenues. As a result, EBITDA is generally higher than net income.
If you own your own small business, it can be a good idea to know both metrics, since each conveys a different message about your firm’s profitability. Lenders may also review both numbers if you apply for a small business loan.
Here’s a closer look at net income vs. EBITDA, how these earnings metrics are similar and different, and what each can tell you about your company’s financial health.
Key Points
• EBITDA and net income are both measures of business earnings but differ in their calculation and implications for financial health.
• Net income accounts for all expenses, while EBITDA excludes interest, taxes, depreciation, and amortization.
• EBITDA is useful for assessing operational efficiency and comparing two companies in the same industry.
• Net income provides a comprehensive view of a company’s profitability, including all costs, and it’s GAAP-compliant.
• Lenders may consider both metrics when evaluating a business’s ability to repay loans.
What Is EBITDA?
EBITDA stands for earnings before taxes, interest, depreciation, and amortization. It’s a measure of a company’s earnings that factors in the cost of goods sold (COGS); selling, general, and administrative (SG&A) expenses; and other operating expenses.
However, EBITDA doesn’t subtract costs that are not directly related to the company’s operations, namely interest paid on small business financing, amortization/depreciation expenses, and income taxes on business revenue.
As a result, EBITDA can be useful for assessing a company’s income potential, as well as comparing the relative performance of two firms in the same industry that may have different tax liabilities and capital structures. (Sometimes EBITDA margin – which is simply EBITDA divided by revenue and expressed as a percentage – is used for these purposes.)
Here’s a deeper look at what EBITDA excludes and why.
• Interest: This refers to interest on debt, including all types of business loans. EBITDA excludes it because how much debt a company takes on will depend on the financing structure of a company. Different companies have different capital structures and, as a result, different interest expenses.
• Taxes: Two companies with identical sales numbers could pay significantly different small business taxes, depending on where they’re located and how many deductions they have. Therefore, taxes don’t illustrate a company’s financial performance or revenue potential.
• Depreciation and Amortization: Depreciation and amortization involve spreading out the cost of an asset over the course of its useful life. While depreciation and amortization are real costs, they depend on the firm’s historical investments, not its current operating performance.
Recommended: How to Calculate EBITDA
What Is Net Income?
Net income is simply the revenue a business brings in once all costs related to operating the business are subtracted.
Those costs include COGS; staffing, general, and administrative (SG&A) expenses; expenses, interest expenses; and non-cash charges, among others. Net income is found at the bottom of a company’s income statement, which is why it’s often referred to as a company’s “bottom line.”
How to Calculate Net Income
The simplest way to calculate net income is to take the gross income — the total amount of money earned — for an accounting period, then subtract all expenses incurred by the business during that period.
The formula is:
Gross Income – Expenses = Net Income
Recommended: EBITDA vx. Gross Profit
How EBITDA and Net Income Are Related
Many of the factors that impact EBITDA also impact net income. For example, both metrics start with a firm’s total revenues. And both subtract business expenses (including COGS and SG&A expenses) to determine a firm’s profits.
To calculate EBITDA, analysts will typically start with net income then add back interest, taxes, depreciation, and amortization to arrive at EBITDA.
Comparing EBITDA vs Net Income
Let’s dig into some of the key similarities and differences of EBITDA vs. net income. While the nuances might seem minor, they can add up to a significant difference in terms of final numbers.
Similarities
There are several similarities between EBITDA and net income. Both metrics:
• Are used to measure the earnings and profitability of a company
• Take most of the major costs of doing business into account
• Are used by investors and lenders to gauge the financial health and income potential of a business
Differences
There are also some key differences between net income vs. EBITDA. These include:
• Net income subtracts taxes, interest paid on debt, and amortization/depreciation expenses from total revenues; EBITDA does not.
• EBITDA is used to determine the total earning potential of a company, whereas net income is used to determine the company’s earnings after all expenses are paid.
• Net income is often used to understand the financial health of mature companies, while EBITDA is commonly used to evaluate start-ups.
• EBITDA is generally more useful than net income to compare the financial health of companies in the same industry.
• Net income complies with the generally accepted accounting principles (GAAP), whereas EBITDA is not.
• EBITDA can overstate the earnings of a business by omitting real expenses, whereas net income cannot.
| EBITDA | Net Income |
|---|---|
| A gauge of the profitability of a firm | The bottom-line earnings of a firm |
| Does not include interest costs, taxes paid, and depreciation and amortization expenses | Includes all expenses |
| Can overstate cash flow since it adds back expenses that are cash outflows | Does not overstate cash flow since all expenses are considered |
| Non-GAAP financial metric | GAAP-compliant |
| Useful when analyzing the profitability of new companies | Useful when analyzing established and mature firms |
Recommended: Revenue vs. EBITDA
Pros and Cons of EBITDA
| Pros of EBITDA | Cons of EBITDA |
|---|---|
| Shows how well ongoing operations create cash flow | Not a measure of a company’s free cash flow |
| Removes capital investment and financing variables | Taxes, interest, depreciation/amortization are real expense that can’t be ignored |
| Tells you how well the business is able to produce profits | Does not account for changes in working capital |
| Lets you compare a company’s efficiency with a competitor’s efficiency | Can mask poor financial decisions |
Recommended: Operating Income vs. EBITDA
Pros and Cons of Net Income
| Pros of Net Income | Cons of Net Income |
|---|---|
| Accounts for all expenses | Includes non-recurring and unusual items, which can make a firm seem less profitable than it really is |
| Tells you actual cash flow of a business | Includes costs that are not directly related to the company’s operations |
| Can be used to calculate earnings per share | May not be ideal when analyzing startups |
| GAAP-compliant | Not useful for comparing how efficient a company is against its competitors |
EBITDA vs Net Income: Is There a Difference?
Although there are similarities between EBITDA vs. net profit, there are significant differences. Perhaps the most important one is that net income subtracts taxes, interest paid on debt, and amortization/depreciation expenses from a company’s total revenues, while EBITDA does not subtract those expenses.
The result is that, first of all, EBITDA is generally higher than net income. Additionally, net income, by definition, determines a company’s earnings after all expenses are paid. EBITDA, however, focuses on operational efficiency. By stripping away effects of non-operational factors (such as taxes, accounting practices, and financing choices), it helps investors estimate how well a company’s operations generate profit. Finally, EBITDA does not comply with GAAP, whereas net income does. These differences mean that the metrics tend to be used in different situations for somewhat different purposes.
When to Use EBITDA vs Net Income
When you’re looking at whether to use EBITDA vs. net profit as a metric, there are general guidelines that may be helpful.
You may want to use EBITDA when you’re:
• Demonstrating how efficiently your operations create cash flow
• Valuing a business for buyers or investors
• Comparing businesses in the same industry that may have different tax obligations, debt, and depreciation/amortization costs
• Evaluating how much debt a company can afford to take on
You may want to use net income when you’re:
• Assessing shareholder value
• Budgeting and planning taxes
• Analyzing a business with frequent equipment expenses
The Takeaway
When comparing EBITDA vs. net income, it helps to understand that these are two different measures of a company’s profitability.
Net income refers to the amount a business makes after all costs. EBITDA adds certain costs (namely, interest paid on debt, taxes, and amortization/depreciation expenses) back to net income to provide better insight into a company’s operational efficiency and profit-making potential.
If you’re in the market for a small business loan, a lender may look at either metric or both of these earnings metrics to see whether you have enough positive cash flow to comfortably make payments on the debt.
Ready to grow your business? SoFi Small Business Loans can give you fast access to the capital you need. Check your eligibility in minutes.
FAQ
Are EBITDA and net income the same things?
No. While both measure a company’s earnings, net income accounts for all costs, while EBITDA (earnings before interest, taxes, depreciation, and amortization) doesn’t account for interest paid on debt, taxes paid, and the non-cash expenses depreciation and amortization.
Can net income be higher than EBITDA?
It’s possible, but it’s not common. Since EBITDA (earnings before interest, taxes, depreciation, and amortization) adds certain expenses back to net income, it will almost always be higher. However, net income could exceed EBITDA in rare situations, such as when a company has significant non-operating income (like gains from asset sales) or tax credits that outweigh operating costs.
How is EBITDA converted to net income?
To convert EBITDA (earnings before interest, taxes, depreciation, and amortization) to net income, you would subtract interest, taxes, depreciation, and amortization from EBITDA to arrive at net income.
What is a good EBITDA margin?
Exactly what constitutes a good EBITDA margin (EBITDA divided by revenue and expressed as a percentage) can vary by industry, but typically a margin around 10-20% is considered healthy.
Why is EBITDA higher than net income?
EBITDA is usually (though not invariably) higher than net income because net income subtracts interest, taxes, depreciation, and amortization from total revenues while EBITDA does not subtract these expenses.
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