The Financial Environment and Financial Accounting

Unit Two: The Financial Environment and Financial Accounting

HA520: Healthcare Financial Management & Economics

Kaplan University

06/20/14

The two financial terms that I have chosen are EBITD and balance sheet. EBITD which means earnings before interest, tax and depreciation, is used as an indicator for a company's sales revenue less cost of goods sold and expense.

Basically the EBITD represents the cash flow a company generates from its operations, not necessarily from its net income. The use of EBITD is common in companies when they want to show where they stand economically. This is very helpful for new companies who have a high debt ratio, not necessarily due to losing money but due to the purchases of machinery, overhead cost, and taxes.

Interestingly, Forbes put out an article in 2011 titled "Top 5 Reasons Why EBITDA Is A Great Big Lie"

* #5 - EBITDA makes companies with asset-heavy balance sheets look healthier than they may actually be. This can lead investors into thinking that the company is working with lower interest rates and low leverage. I would liken this someone wanting a medium soda but is talked into the large for .25 cents more. It sounds like a deal, until you realize that the large is filled mostly with ice, not soda. The ice being debt. Basically you are buying into something that is not true.

* #4 - EBITDA portrays a company's debt service ability - but only some types of debt. This reminds me of a business that I bought stock in. The finances looked awesome until I looked deeper and noticed that it was a shell company for another company that had tons of debt. Needless to say, I lost the money I put in toward the stock.

* #3 - EBITDA ignores working capital requirements. The money you claim you have today is not the money you may have tomorrow. The year to date may look like you are in the positive, but actually you are going to be tying that money up for future assets, or investments. This is like me telling a loan officer that I have $100 in my account, but not telling him that $60 of it is going to another loan tomorrow. Technically I should only claim that I have $40, but $100 sounds better.

* #2 - EBITDA doesn't adhere to Generally Accepted Accounting Principles. The GAAP is a set of standards that companies uses to prepare their finances. EBITDA does not always provide consistency in a company's accounting practices as GAAP would like.

* #1 - EBITDA can present a laundry list of bad information. EBITDA does the job of making companies look good but sweeping the negative stuff under the rug. Moody's Investors Services released a report titled "Ten Critical Failings of EBITDA as the Principal Determinant of Cash Flow "This is the same Moody's