June 30, 2015

Q: Why add back tax? Shouldn’t we consider it as a true expense/cash outflow? I’m referring to the comment on Slide 18 where EBITDA is frequently used as the “cash flow” proxy for Subchapter C corporation cash flow.

A: We do consider taxes as a true expense, if paid by the company in any form, or we consider distributions and loans to owner to be a combination of income taxes and owner compensation.

EBITDA is a standard industry proxy for cash flow. It is badly flawed and the exclusion of Subchapter C corporation taxes is another example of its deficiencies. Taxes are indeed an expense that must be covered.

One should use true cash flow – as opposed to either traditional cash flow or EBITDA – in the form of Uniform Credit Analysis (UCA) cash flow statement to ensure that both balance sheet and income statement cash inflows and outflows are addressed and categorized as operating, investing, and financing events.