The Income Statement, Top to Bottom
Revenue down to EBITDA - the handful of P&L lines a DCF actually cares about, and what each one means.
- ✓Walk the P&L from revenue to EBIT to EBITDA
- ✓Distinguish COGS from operating expenses
- ✓Explain why D&A is added back to reach EBITDA
You don't need every line of GAAP to build a DCF - you need the operating spine of the income statement. Here it is, top to bottom:
| Line | What it is |
|---|---|
| Revenue | Sales from the company's products and services |
| Less: COGS | Direct cost of producing the goods / delivering the service |
| = Gross Profit | What's left to cover overhead; reflects pricing power & efficiency |
| Less: OpEx | Overhead - S&M, R&D, G&A; core but not direct production cost |
| = | Operating profit, independent of financing and taxes |
| Plus: | Non-cash charge for aging assets - added back |
| = | Proxy for operating cash flow; the workhorse profit metric |
EBIT is Earnings Before Interest and Taxes - often equal to operating income. EBITDA adds back , a non-cash expense, to get closer to cash generation. Both ignore capital structure (interest) and taxes, which is exactly why they're comparable across companies.
Depreciation reduces accounting profit but isn't a cash outflow this period - the cash went out when the asset was bought (that's ). To get to cash flow we add back, then subtract actual separately. You'll do exactly this in the build.
A company reports EBIT of $80mm and D&A of $20mm. What is EBITDA?