# Understanding Adjusted EBITDA: Definition, Formula, and Calculation Guide

![Adjusted EBITDA](https://www.investopedia.com/thmb/THhPfhqgTZis0rCVKUoPTKBo3uw=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/adjusted-ebitda.asp-final-d52751a0ef4d4ff48c33de749d473fd6.jpg)

*— Investopedia / Jake Shi*

> **Definition**
>
> Adjusted EBITDA is a non-GAAP earnings measurement that includes interest, taxes, depreciation, amortization, and other adjustments.

## What Is Adjusted EBITDA?

Adjusted EBITDA (earnings before interest, taxes, [depreciation](https://www.investopedia.com/terms/d/depreciation.asp), and [amortization](https://www.investopedia.com/terms/a/amortization.asp)) is a measure computed for a company that takes its earnings and adds back interest expenses, taxes, and depreciation charges, plus other adjustments to the metric.

Standardizing [EBITDA](https://www.investopedia.com/terms/e/ebitda.asp) by removing anomalies means the resulting adjusted or normalized EBITDA is more accurately and easily comparable to the EBITDA of other companies, and to the EBITDA of a company's industry as a whole.

### Key Takeaways

*   Adjusted EBITDA is a financial metric that modifies a company's standard EBITDA by incorporating one-time and non-recurring items, offering a more normalized view of earnings.  
    
*   By adjusting EBITDA, analysts can more accurately compare the financials of a company to its industry peers, aiding in valuation assessments for mergers, acquisitions, or capital raising.  
    
*   The calculation of adjusted EBITDA begins with the company's net income, followed by adding back interest, taxes, and non-cash expenses, along with specific adjustments for non-routine expenses.  
    
*   Common adjustments made for calculating adjusted EBITDA include non-cash expenses, litigation costs, and any personal expenses of owners, especially in private firms.  
    
*   While adjusted EBITDA offers insightful comparisons, it is not a GAAP-standard metric and should be used alongside other financial analysis tools for a comprehensive assessment.

## Understanding the Adjusted EBITDA Formula

﻿ $\begin{aligned} ∋+IT+DA=EBITDA\\ &EBITDA +\!\!/\!\!-A = \text{Adjusted }EBITDA\\ &\textbf{where:}\\ ∋\ =\ \text{Net income}\\ &IT\ =\ \text{Interest \& taxes}\\ &DA\ =\ \text{Depreciation \& amortization}\\ &A\ =\ \text{Adjustments} \end{aligned}$﻿

## Calculating Adjusted EBITDA: A Step-by-Step Guide

Start by calculating EBITDA, which is earnings before interest, taxes, depreciation, and amortization, beginning with net income. Add back interest expenses, income taxes, and non-cash charges like depreciation and amortization to this figure.

Then, add back non-routine expenses like high owner's compensation, or deduct typical expenses absent in the analyzed company but present in peer companies. This could include salaries for necessary headcount in a company that is under-staffed, for example.

## Insights Gained from Adjusted EBITDA

Use adjusted EBITDA to assess and compare companies for valuation and other purposes. Adjusted EBITDA [normalizes](https://www.investopedia.com/terms/n/normalizedearnings.asp) income and expenses to account for unique items in different companies, unlike standard EBITDA.

Adjusted EBITDA, as opposed to the non-adjusted version, will attempt to normalize income, standardize cash flows, and eliminate abnormalities or idiosyncrasies (such as redundant assets, [bonuses](https://www.investopedia.com/terms/b/bonus.asp) paid to owners, rentals above or below fair market value, etc.), which makes it easier to compare multiple business units or companies in a given industry.

In smaller firms, owners' personal expenses often go through the business and must be removed. The adjustment for reasonable compensation to owners is defined by Treasury Regulation 1.162-7(b)(3) as “the amount that would ordinarily be paid for like services by like organizations in like circumstances.”

Other times, one-time expenses need to be added back, such as legal fees, real estate expenses such as repairs or maintenance, or insurance claims. Add back non-recurring items like one-time startup costs that reduce EBITDA when calculating adjusted EBITDA.

Adjusted EBITDA should not be used in isolation and makes more sense as part of a suite of analytical tools used to value a company or companies. Use ratios based on adjusted EBITDA, like the [enterprise value](https://www.investopedia.com/terms/e/enterprisevalue.asp)/adjusted EBITDA ratio, to compare companies of varying sizes and industries.

## Practical Example of Adjusted EBITDA in Business Valuation

Use adjusted EBITDA to determine a company's value in transactions like [mergers](https://www.investopedia.com/terms/m/merger.asp), acquisitions, or raising capital. For example, if a company is valued using a multiple of EBITDA, the value could change significantly after add-backs.

Assume a company is being valued for a sale transaction, using an EBITDA multiple of 6x to arrive at the purchase price estimate. If a company adds back $1 million in non-recurring expenses, this increases its purchase price by $6 million using a 6x multiple. For this reason, EBITDA adjustments come under much scrutiny from equity analysts and investment bankers during these types of transactions.

The adjustments made to a company's EBITDA can vary quite a bit from one company to the next, but the goal is the same. Adjusting the EBITDA metric aims to "normalize" the figure so that it is somewhat generic, meaning it contains essentially the same line-item expenses that any other, similar company in its industry would contain.

The bulk of the adjustments are often different types of expenses that are added back to EBITDA. The resulting adjusted EBITDA often reflects a higher earnings level because of the reduced expenses.

## Common Adjustments in Calculating Adjusted EBITDA

Common EBITDA adjustments include items like:

*   Unrealized gains or losses
*   Non-cash expenses (depreciation, amortization)
*   Litigation expenses
*   Owner's compensation that is higher than the market average (in private firms)
*   Gains or losses on foreign exchange
*   Goodwill impairments
*   Non-operating income
*   Share-based compensation

This metric is typically calculated on an annual basis for a valuation analysis, but many companies will look at adjusted EBITDA on a quarterly or even monthly basis, though it may be for internal use only.

Analysts often average adjusted EBITDA over three to five years to [smooth out the data](https://www.investopedia.com/terms/d/data-smoothing.asp). The higher the adjusted EBITDA margin, the better. Different firms or analysts may arrive at slightly different adjusted EBITDA due to differences in their methodology and assumptions in making the adjustments.

These figures are often not made available to the public, while non-normalized EBITDA is typically public information. It is important to note that adjusted EBITDA is not a [generally accepted accounting principles (GAAP)](https://www.investopedia.com/terms/g/gaap.asp)\-standard line item on a company's income statement.

> **Article Sources**
>
> 1.  Code of Federal Regulations. “[Title 26: § 1.162-7 Compensation for Personal Services](https://www.ecfr.gov/current/title-26/chapter-I/subchapter-A/part-1/subject-group-ECFRc4930337f38ecfd/section-1.162-7).”
>     
> 2.  U.S. Securities and Exchange Commission. “[Non-GAAP Financial Measures](https://www.sec.gov/corpfin/non-gaap-financial-measures).”