Published on September 26th, 2014 by Alan L Sklover
What is the meaning of:
Often when reviewing or negotiating employment contracts, bonus agreements, and stock award plans, we come across an accounting term that is not a real word, but an acronym: EBIDTA. It stands for “Earnings
Before Interest, Depreciation, Taxes and Amortization.” It is commonly viewed to be a measure of the profitability of a company.
It is supposed to measure net income, with interest, taxes, depreciation and amortization added back in to it. It is used to analyze and compare profitability because it eliminates financing and accounting decisions and their effects.
Most often we see EBIDTA in employment-related agreements or benefit plans as a condition of payment of bonuses, vesting of equity, or other employee rights or entitlements. For example, “Your stock options will vest if, during the previous fiscal year, the company’s EBIDTA exceeds $30 million.” Here’s another example: “Annual bonuses will be distributed only if the company achieves EBIDTA of at least 125% of its EBIDTA in its first year of operation.”
Savvy investors and business people know that EBITDA is quite capable of manipulation by adding in or subtracting out a wide variety of costs and revenues. The lesson is this: EBIDTA is capable of manipulation, most often to help the person(s) doing the calculations, and least often in the interests of others.
If you have an employment contract, stock option agreement, bonus plan or other important work-related document that uses EBIDTA as a measure of success, or as a condition to your receiving a benefit or payment, consider requesting that a metric that is more likely to result from accurate measurement, and less prone to manipulation, is used, ones that make sense in your particular industry. In music, it might be albums or tickets sold. In healthcare it might be the number of patient visits. In blogs, it might be the number of new visitors.
Honesty is in the interests of everyone. Metrics that are capable of manipulation are prone to dishonesty, or as we like to say “non-accidental errors.” Bear that in mind.
© 2014 Alan L. Sklover. All Rights Reserved. Commercial Use Strictly Prohibited