EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) is a central management intermediate balance for business valuation. It measures the potential cash generated by the operation before taking into account the financial structure, taxation and investment policy.

Here’s how it’s used to value a company, mainly through two methods: the multiples method (comparable) and as a basis for calculating cash flows (DCF).

1. The Multiple Method (Analogical Approach)

This is the most common use of EBITDA in the world of mergers and acquisitions (M&A) and the stock market. It consists of valuing a company by applying to its EBITDA a coefficient (multiple) observed on comparable companies.

• The principle: We observe how the market values similar companies (sector, growth, risk) in relation to their EBITDA. For example, if listed competitors are worth an average of 10 times their EBITDA, the value of the target company can be estimated by multiplying its EBITDA by 10.
• The EV/EBITDA Ratio: As EBITDA goes to all financiers (it is calculated before interest), it must be compared to the Enterprise Value (EV) and not just to market capitalization.
  • Formula: Multiple = Enterprise Value (EV) / EBITDA
  • Value calculation: 

EV Target = Average Multiple Target ×  EBITDA of  the Sector

• Examples from sectors:
  • Telecom tower companies (such as Vantage Towers or American Tower) are often valued at very high EBITDA multiples, in the order of 18 times (sometimes more if the ß temporarily falls), due to the recurrence of their flows and their low risk profile.
  • Companies with maturity and low performance will have an EBITDA multiple of around 5 to 8.
  • Due to the growth prospects, some companies in the Cloud/AI world are generating multiples in the range of 20 to 25.

2. The starting point of the DCF (Intrinsic Approach)

In the discounted cash flow (DCF) method, EBITDA is used as a starting point to calculate Free Cash Flow (FCF), which is the true measure of wealth created.

Transformation into Cash Flow: EBITDA is only a “potential” cash flow. To obtain the actual cash flow to be discounted, adjustments must be applied: 

FCF = EBITDA × (1 – T) + T × D&A – Delta WCR – Investments (Capex)

This shows that EBITDA overestimates the value if it does not take into account taxes, the variation in Working Capital Requirements (WCR) and the investments necessary to maintain activity.

3. Project Performance Indicator

At the microeconomic level (investment project), EBITDA makes it possible to calculate a project valuation multiple similar to that of a company:

• The Enterprise Value of the project (sum of discounted cash flows) is calculated.
• This value is divided by the annual EBITDA of the project.
• Example: If a project has an NPV of 75.3 and invested capital of 60 (i.e. a project EV of 135.3) and it generates 40 EBITDA, its multiple is 3.4x. This makes it possible to quickly compare the attractiveness of different investments.

4. Caveats and limitations

The sources point to several pitfalls in using EBITDA for valuation:

• The potential  illusion of “Adjusted” EBITDA: Some companies (such as Snowflake) communicate on “Adjusted EBITDA” to mitigate, or even mask, accounting losses. They often exclude stock-based compensation from expenses, thus inflating EBITDA by arguing that these compensations are, for employees, investments even if they have a real economic cost for the shareholder (dilution).
• Forgetting about Capex: A company can have a positive EBITDA but go bankrupt if its investment needs (Capex) to maintain the industrial tool are higher than the EBITDA. EBITDA does not measure survival (liquidity), only Free Cash Flow does.
• Economic relevance: Using EBITDA to value companies that are not yet making a profit (such as tech startups such as Rivian or DoorDash during their IPOs) can lead to extreme valuations (e.g. 500 years of EBITDA for Snowflake at a given time) that are based on very risky growth bets rather than current performance.