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Second, EBITDA has the same flaw as operating cash flow (OCF), which we discussed in this tutorial's section on cash flow: there is no subtraction for long-term investments, including the purchase of companies (since goodwill is a charge for capital employed to make an acquisition). Put another way, OCF totally omits the company's use of investment capital. A company, for example, can boost EBITDA merely by purchasing another company.
2. Operating Income after Depreciation and Amortization (EBIT)
In theory, this is a good measure of operating profit. By including depreciation and amortization, EBIT counts the cost of making long-term investments. However, we should trust EBIT only if depreciation expense (also called accounting or book depreciation) approximates the company's actual cost to maintain and replace its long-term assets. (Economic depreciation is the term used to describe the actual cost of maintaining long- term assets). For example, in the case of a REIT, where real estate actually appreciates rather than depreciates--that is, where accounting depreciation is far greater than economic depreciation--EBIT is useless.
Furthermore, EBIT does not include interest expense and therefore is not distorted by capital structure changes. That is, it will not be affected merely because a company substitutes debt for equity or vice versa. By the same token, however, EBIT does not reflect the earnings that accrue to shareholders since it must first fund the lenders and the government.
As with EBITDA, the key task is to check that recurring, operating items are included and items that are either non-operating or non-recurring are excluded.
3. Income from Continuing Operations before Taxes (Pre-tax Earnings) Pre-tax earnings subtracts (includes) interest expense. Further, it includes other items that technically fall within "income from continuing operations," which is an important technical concept.
Sprint's presentation conforms to accounting rules: items that fall within income from continuing operations are presented on a pre-tax basis (above the income tax line), whereas items not deemed part of continuing operations are shown below the tax expense and on a net tax basis.
The thing to keep in mind is that you want to double-check these classifications. We really want to capture recurring, operating income, so income from continuing operations is a good start. In Sprint's case, the company sold an entire publishing division for an after-tax gain of $1.324 billion (see line "discontinued operations, net"). Amazingly, this sale turned a $623 million loss under income from continuing operations before taxes into a $1.2+ billion gain under net income. Since this gain will not recur, it is correctly classified.
On the other hand, notice that income from continuing operations includes a line for the "discount (premium) on the early retirement of debt." This is a common item, and it occurs here because Sprint refinanced some debt and recorded a loss. But, in substance, it is not expected to recur and therefore it
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