In the realm of discussing a company’s financial health, EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) has emerged as a ubiquitous metric. Yet, its widespread acceptance does not extend to all corners of the investing world. Notably, legendary investor Warren Buffett, along with his long-time partner Charlie Munger, have been vocal critics of the acronym, with Munger caustically dubbing it as “bullshit earnings.”
Buffett’s skepticism towards EBITDA was underscored at the 2017 Berkshire Hathaway Annual Meeting. He highlighted depreciation, a key component excluded from EBITDA calculations, as a particularly concerning aspect. Unlike other expenses, depreciation involves spending money upfront and subsequently recording expenses, essentially creating a reverse float. Buffett argues that such an approach misrepresents the true financial position of a company and can lead to inflated valuations.
Moreover, Buffett points out the self-serving nature of EBITDA’s popularity within financial circles. Wall Street benefits from the metric’s emphasis, as it often results in higher borrowing capabilities and inflated valuations, fueling a cycle of misinformation and misrepresentation.
For Buffett, the allure of EBITDA is a “mass delusion,” diverting attention away from more meaningful indicators of a company’s long-term viability. Instead, he advocates for a thorough understanding of a company’s fundamentals, including its capital expenditures and cash flows.
In essence, Buffett’s critique of EBITDA serves as a reminder to investors to scrutinize widely accepted metrics and delve deeper into a company’s financial reality. While EBITDA may offer a convenient shorthand, its shortcomings can lead to misguided investment decisions. As Buffett remarked, “It’s better to be approximately right than precisely wrong.”
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© 2024 David Mazor
Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.