Debt to EBITDA
Debt to EBITDA (also known as D/EBITDA or Debt/EBITDA) is widely used ratio that measures how big company’s debt is compared to its EBITDA (earnings before interest taxes depreciation and amortization). EBITDA is the most stable type of earnings and is a good indicator to show companies potential earnings.
(1) D/EBITDA = Total Debt / EBITDA
(2) D/EBITDA = Net financial debt / EBITDA
* It is more professional to used net financial debt which is equal to interest bearing liabilities less cash and other financial assets.
** EBITDA = Pre-Tax income + Financial expenses – Financial income + Depreciation + Amortization.
Debt to EBITDA ratio is mostly used by banks and other creditors that want to measure company’s potentiality to repay its debts. The higher this ratio is the more company is exposed to the debt. For a companies that have stable cash flow normal debt to EBITDA ratio may reach 5 but the same ratio for another company (for example construction firm) might be an extreme. For most of the companies average debt to EBITDA ratio should be from 1 to 3 trying to get closer to the target capital structure.
To measure company’s financial leverage other ratios should be calculated too: