Earnings Before Tax (EBT)

What is Earnings Before Tax (EBT)

Earnings before tax (EBT) measures a company's financial performance. It is a calculation of a firm's earnings before taxes are taken out. The calculation is revenue minus expenses, excluding taxes. EBT is a line item on a company's income statement. It shows a company's earnings with the cost of goods sold (COGS), interest, depreciation, general and administrative expenses, and other operating expenses deducted from gross sales.

Key Takeaways:

  • Earnings before tax (EBT) is a calculation of a firm's earnings before taxes are considered.
  • EBT is a line item on a company's income statement showing a company's earnings with the cost of goods sold and other operating expenses deducted from gross sales.
  • EBT is an important figure because it removes the effects of taxes when comparing businesses and can reflect a firm's performance when compared with industry peers.

Understanding Earnings Before Tax (EBT)

EBT is the money retained internally by a company before deducting tax expenses. It is an accounting measure of a company's operating and non-operating profits. All companies calculate EBT in the same manner, and it is a "pure ratio," meaning it uses numbers found exclusively on the income statement. Analysts and accountants derive EBT through that specific financial statement. A company will first record its revenue as the top line number. 

If, for example, a company sells 30 widgets for $1,000 a piece during January, its revenue for the period is $30,000. The company then assesses its COGs and subtracts that number from the $30,000 revenue. If it costs the company $100 to produce a single widget, its COGS for January is $3,000. This means that its gross revenue is $27,000 ($30,000 - $3,000 = $27,000).

After a company determines its gross revenue, it tallies all its operating costs together and subtracts that figure from the gross. The operating costs of a company may include any expenses related to its daily activities, such as salary and wages, rent, and other overhead expenses. If the company is a technology company with substantial investments in human capital, it might have salaries of $10,000 a month and monthly rent of $1,000. This higher cost to produce means that it would subtract $11,000 in total overhead from its gross revenue. Using our example above for this tech company, the resulting earnings before interest, tax, depreciation, and amortization (EBITDA) is $16,000.

Assuming the company owns no physical assets and instead chooses to rent computers and server space from Amazon, its earnings before interest and taxes (EBIT) would also equal $16,000. If it has $1,000 of monthly interest expenses, its EBT would be $15,000.

Earnings Before Tax (EBT) as a Tool for Comparison

EBT is crucial because it removes the effects of taxes when comparing businesses. For example, while U.S.-based corporations face the same tax rates at the federal level, they face different tax rates at the state level. Since companies may pay different tax rates in different states, EBT allows investors to compare the profitability of similar companies in various tax jurisdictions. Further, EBT is used to calculate performance metrics, such as pretax profit margin.

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