Key Points
- EBITDA adds back depreciation, amortisation, interest and taxes to net profit, isolating recurring operating performance from capital structure and accounting policy choices.
- Lenders frequently set covenant thresholds using EBITDA-based ratios such as net debt to EBITDA (often between 2.5 and 4.0 for mid-market borrowers).
- Because IFRS does not define EBITDA, entities calculate it inconsistently, making year-on-year and peer comparisons unreliable without verifying the underlying adjustments.
- Auditors who rely on EBITDA during analytical procedures must confirm that the figure reconciles to audited line items in the statement of profit or loss.
What is EBITDA?
IFRS contains no standard definition of EBITDA. IAS 1.85 permits an entity to present additional line items and subtotals in the statement of profit or loss when doing so is relevant to understanding financial performance, but it does not prescribe or endorse EBITDA as one of those subtotals. In practice, entities compute it as operating profit plus depreciation and amortisation from the statement of profit or loss, or as net profit before interest, tax, depreciation and amortisation. The two routes should produce the same figure, but they diverge when the entity includes non-recurring items (restructuring charges, impairment losses, gains on disposal, share-based payments) in one version but not the other.
That inconsistency is where the audit risk sits. ISA 520.5 requires the auditor to design analytical procedures using data that is reliable for the purpose. When a debt covenant defines EBITDA with specific add-backs (excluding IFRS 16 depreciation of right-of-use assets, for instance, or including share-based payment expense), the auditor must test the entity's calculation against that covenant definition rather than assuming a textbook formula. IAS 1.85A reinforces this by requiring that additional subtotals presented in the financial statements comprise line items made up of amounts recognised in accordance with IFRS.
During the going concern assessment, ISA 570.10 directs the auditor to consider financial indicators of distress. A declining EBITDA trend over consecutive periods signals that the entity's core operations are weakening independently of financing costs and non-cash charges.
Worked example: Dupont Ingénierie S.A.S.
Client: French engineering services company, FY2025, revenue €92M, IFRS reporter. Dupont's primary bank facility (€35M revolving credit) contains a covenant requiring net debt to EBITDA of no more than 3.0 at each semi-annual testing date. The covenant defines EBITDA as "operating profit before depreciation, amortisation and impairment, excluding non-recurring restructuring charges."
Step 1 — Extract the components from the audited financials
Operating profit per the statement of profit or loss is €7.8M. Depreciation of property, plant and equipment is €2.1M. Amortisation of intangible assets (capitalised development costs) is €0.9M. Depreciation of right-of-use assets under IFRS 16 is €1.4M. Restructuring charges of €0.6M were recognised in operating profit following the closure of a regional office.
Step 2 — Apply the covenant definition
The covenant excludes restructuring charges and includes all depreciation and amortisation. EBITDA = €7.8M + €2.1M + €0.9M + €1.4M + €0.6M = €12.8M. Note that the €0.6M restructuring charge is added back because the covenant defines EBITDA before such charges.
Step 3 — Calculate the covenant ratio
Net debt is €28.4M (gross bank debt €35M less cash of €6.6M). Net debt to EBITDA = €28.4M / €12.8M = 2.22. The covenant ceiling is 3.0. Headroom is 0.78.
Step 4 — Assess sensitivity and going concern implications
Dupont's FY2024 EBITDA was €11.6M (net debt to EBITDA of 2.59). The improvement reflects higher project billing volumes in H2 2025. If H1 2026 volumes revert to H1 2025 levels, the annualised EBITDA would be approximately €11.2M, producing a ratio of 2.54 (still within covenant). No ISA 570.A3 going concern indicators are present.
Conclusion: Dupont's covenant EBITDA of €12.8M is defensible because each adjustment ties to an audited line item and matches the covenant definition verbatim; the net debt to EBITDA ratio of 2.22 provides adequate headroom against the 3.0 ceiling.
Why it matters in practice
Teams accept management's EBITDA calculation without reconciling it to the covenant definition in the loan agreement. Covenant EBITDA frequently differs from the figure in management's board pack (which may exclude IFRS 16 depreciation or include different add-backs such as capitalised borrowing costs). ISA 520.A5 requires the auditor to evaluate whether the data underlying the analytical procedure is reliable for the specific purpose.
The add-back of impairment losses to EBITDA is sometimes applied mechanically without considering whether the covenant permits it. Not all facility agreements treat impairment as an allowable add-back. Assuming it qualifies without reading the covenant wording can produce a ratio that overstates compliance by a material margin.
EBITDA vs. EBIT
| Dimension | EBITDA | EBIT |
|---|---|---|
| What it measures | Operating cash proxy: earnings before interest, tax, depreciation and amortisation | Operating profit: earnings before interest and tax only |
| Depreciation and amortisation | Added back (excluded from the metric) | Included (remains in the metric) |
| IFRS 16 impact | Higher than pre-IFRS 16 figures because right-of-use asset depreciation is added back | Unaffected by IFRS 16 because ROU depreciation replaces the old operating lease charge within operating profit |
| Common use in covenants | Net debt to EBITDA ratios (typical threshold 2.5 to 4.0) | Interest coverage ratio (typical threshold 2.0 to 4.0) |
| When it misleads | Overstates cash generation for capital-intensive entities with large depreciation charges that represent real future replacement expenditure | Understates cash available for debt service because depreciation is a non-cash charge that reduces the figure |
EBITDA treats depreciation and amortisation as irrelevant to operating performance. EBIT retains them. For asset-light businesses (consulting, software), the two figures converge because depreciation is small. For capital-intensive entities (manufacturing, transport), the gap can be substantial. An entity with EBITDA of €10M and depreciation of €6M has EBIT of only €4M, and the auditor's choice of metric in the interest coverage ratio calculation produces very different conclusions about debt serviceability.
Related terms
Frequently asked questions
How do I audit EBITDA when IFRS does not define it?
Start with the entity's own definition and the covenant definition (if one exists). Reconcile EBITDA to audited line items in the statement of profit or loss. ISA 520.A4 requires that the data underlying analytical procedures comes from a source the auditor considers reliable. If the entity presents EBITDA as an additional subtotal under IAS 1.85, verify that it complies with IAS 1.85A (composed of IFRS-recognised amounts, not arbitrary adjustments).
Does IFRS 16 affect EBITDA calculations?
Yes. IFRS 16 replaced operating lease expense (an above-EBITDA cost under old IAS 17) with depreciation of the right-of-use asset and a finance charge on the lease liability. Both sit below the old operating expense line. This mechanically increases EBITDA for lessees. Many pre-2019 loan covenants were negotiated on an IAS 17 basis, so the covenant definition may require a "frozen GAAP" EBITDA that reverses the IFRS 16 uplift.
Can EBITDA be negative, and what does that signal?
A negative EBITDA means the entity's core operations do not generate enough revenue to cover operating costs before depreciation, amortisation, interest and tax. ISA 570.A3 lists recurring operating losses as a condition that may indicate going concern doubt. Negative EBITDA is a stronger signal than negative net profit, because it removes the non-cash charges that sometimes mask operational weakness.