Chartered Financial Analyst (CFA) Practice Exam Level 2

What does EBITDA primarily include in its calculation?

1. Sales - Depreciation - Interest

2. Sales - COGS - SGA

3. Sales - COGS - Depreciation and Amortization

4. Sales - Taxes - Interest

The correct answer is: Sales - COGS - Depreciation and Amortization

EBITDA, which stands for Earnings Before Interest, Taxes, Depreciation, and Amortization, focuses on a company's operational performance by evaluating earnings generated from core business activities. The calculation of EBITDA considers sales as the top line revenue, then subtracts the cost of goods sold (COGS), and accounts for operating expenses, specifically depreciation and amortization. By including sales, COGS, and depreciation and amortization, this calculation reflects a company's ability to generate earnings before the impact of capital structure (interest) and tax positions is considered. This makes EBITDA a useful metric for comparing the profitability of companies within the same industry while neutralizing the effects of financing and accounting decisions. The other choices do not accurately represent the components of EBITDA. For example, one option incorrectly includes interest and taxes, which are specifically excluded in the EBITDA calculation. Understanding the fundamental components involved in EBITDA is crucial for assessing operational efficiency and enabling informed investment decisions.