As a future investor of a company, it is crucial to know what will move your capitalistic world forward with the help of certain tools. Many investors become rich because of their investments, but some also lose enormous money. The reason is as simple as it gets: knowledge. Today, we present you three key metrics, which will help you understand the world of investment better.
EBITDA, Earnings Before Interest, Taxes, Depreciation, and Amortization is a metric representing an evaluation of a company’s operating performances throughout a specific period of time. Many investors use this metric to observe the profitability of a firm’s operations. That said, the latter doesn’t include non-operating costs such as interest expenses, taxes, or intangible assets.
Moreover, EBITDA can also be used to compare capital investment, debt, and tax profiles of different companies for financial and investment analysis. The related information is often shown in press releases of companies’ quarterly reports since it specifically focuses on the raw performances of the company.
What’s the EBITDA Formula?
Some companies provide press releases of financial status and operating performances while others don’t. Therefore, it is essential to know how to calculate the EBITDA of a company by using the data at your disposal:
EBITDA = Net Income + Interest + Taxes + Depreciation + Amortization
EBITDA = Operating Profit + Depreciation + Amortization
Benefits of EBITDA
- It gives a reliable indicator (in most cases) of the financial efficiency of a company
- It presents the outlines of the company’s growth
Drawbacks of EBITDA
- EBITDA is not a full proof solution for analyzing a company’s cash flow
- It also ignores the real quality of a company’s earnings
What’s a Gross Margin and how does it apply to a SaaS company?
The Gross Margin is the amount of remaining money on each dollar of revenue that a company made during a certain period of time. In other words, it is the result of the difference between net sales and the cost of goods sold (COGS).
For SaaS companies, there shouldn’t be many costs associated with product manufacturing since, in most cases, those businesses offer only online services and pieces of software with subscription plans.
Gross Margin Formula
A gross margin is often calculated out as a percentage, but there is also the good old fashion method if you prefer. In all cases, we wrote both formulas down below for your convenience:
Gross Margin = Revenue – Cost of Goods Sold
or for the %
Gross Margin = (Total Revenue – Cost of Goods Sold) / Total Revenue x 100
The importance of Gross Margin to an Investor
When a company cannot gain financial stability, you might notice a trend or rather incapability of stabilizing the selling prices and costs of the production. This particular situation suggests high volatility of the company, which could mean this company is not a suitable bet for investors who seek a long-term investment. In the end, the company’s value may not grow accordingly to previous plans in the long run.
Net profit is a figure that can be calculated by subtracting total expenses from total revenues to present the pure amount of profit of a company during a particular period of time.
Net Profit Formula
The net profit formula is quite similar to the gross margin formula, but the 2 metrics are totally different. The net profit includes all costs that are related to the production and organization. This figure can be calculated with the following formula;
Net Profit = Total Revenue – Total Expenses
The expenses used to calculate this metric can vary from one company to another. The expenses generally include:
- Machinery for the production of goods
- Wages for labor
- Utilities and infrastructures
- Office operating expenses
- Rental fees
- Employee benefit costs
The Importance of Net Profit
Net profit does not only provide information about the final numbers of the company but also represents the power and capability of the latter to grow in the near future. Moreover, it also shows if the management of said company is able to contain overhead costs while keeping everything tight and secure on the operating costs as well.
Those are the important figures that both investors and business owners should know in order to understand the real profitability of a business. Investors who want to gain a large amount of capital for their portfolio should be able to analyze the business with different viewpoints, whether it be in the past or the future, all the angles are important. Now you know that these key metrics; the EBITDA, the Gross Margin, and the Net Profit, are critically important for business owners and investors alike.
We hope that this information will help you have a better understanding of the key terms that are commonly used in the world of investment. Don’t forget, knowledge is power, and you may already be on the road to success.
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