What determines your real financial gain from a business (which many got the wrong idea and value)

Does your business truly create a real gain or not? Simple as it may sound but not many business owners or leaders can answer it succinctly.?

Knowing the way to measure it means a huge difference between knowing the real picture and thinking it is the real picture. But real professionals knows the real deal!

In general there a few commonly used measurement that businesses use to capture a gain or a loss from their business. Having a clear and proper understanding will not only provide the proper education regarding it but also enable you to understand the relationship and the impact of each of them.

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1.??Earnings Before Taxes (EBT) – this measurement is useful in providing insights into the profitability (or loss) of a business before taxes. EBT is a simple measurement and straightforward to understand. It basically deduct the Cost of Goods Sold and Operating Expenses from your Revenue. It does however also include any result from Other Income net of Other Expenses.?

In analyzing profitability, it enables the conversation on any potential developments or adjustments to the business strategy. It however does not includes any impact coming from taxes or tax planning effects.???

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2.??Earnings Before Interest and Taxes (EBIT) – this particular measurement is quite similar to EBIT except that it does not includes any result from Other Income net of Other Expenses.? It provides insights into the business profitability (Revenue – Cost of Goods Sold and Operating Expenses) excluding any financing and tax impact.

In analyzing the business performance, it focuses on its Operating Margins. It provides insights into operating effectiveness within and when compare with others similar businesses.

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3.??Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) – this measurement is most commonly used in business valuation and among private equity investors. When calculating this measurement Depreciation and Amortization are added back to EBIT.

By doing so, it provides a gauge on the business cash flow which is very important for understanding the sustainability and financing needs of the business operation. Similarly EBITDA can be used to compare with other similar businesses to assess the financial strength of the business.

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4.??Economic Value Added (EVA) – this is a measure of a business financial performance based on the residual wealth calculated by deducting its cost of capital from its operating profit, adjusted for taxes on a cash basis. In another words, it is EBITDA deducting Taxes and Depreciation to be Net Operating Profit After Taxes (NOPAT). Then at NOPAT stage you need to deduct the Cost of Capital that you use to fund your business. Cost of Capital refers to the cost of borrowing money from creditors, or raising it from investors through equity financing, compared to the expected returns on an investment.

The main significance of EVA is that it includes Cost of Capital which most measurement do not include and therefore provides an inaccurate picture of a business return on investment.

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From the above it should be clear what each of the measurement means to you as a business owner, business leader and investor. Do not be confused with each one of them. Wrong measurement and comparison will give you a false sense of results and will deviate your strategy planning, which happens often.