EBITDA: Decoding the Financial Buzzword on Shark Tank India
06 April 2024
Financial Metric to evaluate company's operational efficiency
Amidst all the fun on Shark Tank, what the show does really well is touch upon some of the most fundamental concepts of business and entrepreneurship in a simple manner. One term that often pops up in boardrooms and on television screens is EBITDA. But what does EBITDA mean, and why is it important?
EBITDA, short for Earnings Before Interest, Taxes, Depreciation, and Amortization, is a vital financial metric. It offers insight into a company's operational efficiency by excluding non-operating and non-cash expenses.
EBITDA = Operating Profit + Depreciation + Amortization
Let's understand this concept with short analysis:
We take companies, specifically chosen from FMCG Sector as on shark tank india this is the major sector that Pitchers take for their business idea and investors make the deals.
Examining the EV/EBITDA ratios over five fiscal years (FY19 to FY23), we observe notable fluctuations. Notably, the ratio spiked from 31x in FY20 to 37x in FY22 and post that started correcting, to pre-covid levels.
These variations coincide with the pre-funding winter era, where companies were deemed overvalued by approximately 40%. The subsequent correction in EV/EBITDA ratios aligns with the onset of the “funding winter”, characterized by reduced capital infusion and cautious investor sentiment. During such periods, companies may face constraints in scaling up. This can impact their EBITDA growth trajectory.
Interpretation
The EV/EBITDA ratio reflects investor willingness to pay for a
company's EBITDA, potentially indicating growth prospects, market confidence,
or industry trends, but also the risk of overvaluation. While a lower ratio may
signal undervaluation or profitability concerns.
When assessing FMCG stocks, investors should weigh this ratio alongside other company-specific factors for a comprehensive analysis.
Why Investors Love EBITDA?
In Shark Tank India, budding entrepreneurs present their business ideas to a panel of shrewd investors. The judges scrutinize every aspect, including financial health.
CFO/EBITDA is a valuable metric to unveil the red flag in the balance sheet, indicating the efficiency of converting operating earnings into cash flow. A ratio of 0.7 suggests that 70% of earnings are converted into cash. Usually 0.9 or 90% considered a good number, should be evaluated as per sector average.
Comparisons and Benchmarks: Private equity firms love EBITDA, allows them to compare similar businesses within the same sector and is considered a common metric in asset-heavy industries. EBITDA zeroes in on operational decisions. It disregards factors like capital structure, debt financing, and tax nuances. This independence provides a clearer picture of a company's core profitability.
In the current seasons of Shark Tank India, the judges repeatedly use the term EBITDA to evaluate the performance of the ventures presented on the show. It serves as a crucial factor in assessing the financial health and potential of these budding businesses.