EV/EBITDA compares a company's enterprise value (EV) (the market value of its shares plus its debt, minus its cash) with its EBITDA, the profit from day-to-day operations. It answers: how many years of operating profit would it take to pay for the whole business, lenders' claims included?
Why does EV include debt?
Because if you bought the whole company, its loans would come with it.
Joseph is weighing two fictional bottling companies, each with shares worth ₹1,000 crore in total (market capitalisation):
| Godavari Bottlers | Tapti Bottlers | |
|---|---|---|
| Market cap | ₹1,000 crore | ₹1,000 crore |
| Debt | ₹0 | ₹800 crore |
| Cash | ₹200 crore | ₹0 |
| Enterprise value | ₹800 crore | ₹1,800 crore |
On market cap the twins look identical. But buying Tapti Bottlers outright really costs ₹1,800 crore, ₹1,000 crore for the shares plus taking on ₹800 crore of loans. Buying Godavari costs ₹800 crore in effect, because ₹200 crore of cash comes back to you in the till. EV is the true "whole business" price tag; market cap is only the equity slice of it.
How do I calculate it for Kaveri Motors?
Our fictional vehicle maker: 10 crore shares at ₹200 give a market cap of ₹2,000 crore. It carries ₹250 crore of borrowings and ₹150 crore of cash, and earns EBITDA of ₹200 crore (built up rung by rung in what are revenue, EBITDA and profit margins).
- EV = 2,000 + 250 − 150 = ₹2,100 crore
- EV/EBITDA = 2,100 ÷ 200 = 10.5
Roughly: at current operating profit, the whole business "pays for itself" in about ten and a half years. As with every valuation ratio, the number means something only against the company's own history and its sector peers. The comparison discipline from how do I use valuation ratios like P/E, P/B and PEG applies unchanged.
When do analysts prefer it over P/E?
Capital-heavy sectors, cement, steel, power, telecom, infrastructure. Two reasons:
- Debt distorts P/E comparisons. P/E looks only at equity and profit after interest. Two companies with identical operations but different debt loads show very different P/Es. EV/EBITDA charges each company for its debt in the numerator and ignores interest in the denominator, so the operating businesses can be compared head-on.
- Depreciation policy distorts earnings. In factory-heavy businesses, depreciation is enormous, and its size depends on asset age and accounting choices. A company with a newly built plant shows crushing depreciation and puny net profit (its P/E looks absurd) while its operations may be perfectly healthy. EBITDA sits above that noise.
It's also the workhorse for loss-making or cyclically depressed companies: when net profit is negative, P/E is meaningless, but EBITDA is often still positive and comparable.
The flip side: EBITDA's blind spots become EV/EBITDA's blind spots. Depreciation reflects real wear; interest is a real bill. A business that must endlessly replace machinery can look deceptively cheap on EV/EBITDA while actual cash flows to shareholders stay thin.
Things to keep in mind
- Use EV/EBITDA when comparing companies with different debt levels or heavy assets; use it alongside P/E, not instead of everything.
- Always recompute EV. Screeners sometimes lag on debt and cash figures, and both move every quarter.
- "Cheap" on EV/EBITDA can simply mean the market doubts the EBITDA will last; ask why before celebrating.
- Like every ratio here, it is a comparison tool for your own judgement, never a buy or sell signal.
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