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finance a la shmoop what is the debt to EBITDA ratio alright people well

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anytime you see that to in there a pretty good chance we're dealing with a [Person writes ratio on chalkboard]

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ratio and yeah this one's a ratio that compares what a company owes in debt to

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its EBITDA or earnings before interest taxes depreciation and amortization

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otherwise lovingly known on Wall Street as cash flow like the cash it produces [Cash falls from sky]

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alright well the numbers used by bankers and investors to see how leveraged is a

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company is and evaluate its creditworthiness the higher the number

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the more likely it is that a company will struggle to pay up its debt.. Well,

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let's use a couple of practical examples here, a demo;

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if your friend Deb wants

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to borrow five grand from you maybe Deb just doesn't want her pops to

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know she you know dented the car she's not the best driver in the world and

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Deb's a two on the friend reliability scale like you totally trust her and [Deb moving side to side on reliability scale]

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she's a lawyer and makes hundreds of thousands of dollars a year suing people

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for stuff all right well after living expenses she has cash flow personally of

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some fifty grand a year that she socks away in a mattress you know what she [Deb places cash under mattress]

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sleeps on so you'd go ahead and make the loan to Deborah and you'd have no doubt

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that she has the dough to pay you back your five grand the debt to EBITDA in

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this situation five grand over 50 grand or one to ten or 0.1 very low debt to

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EBITDA ratio there very safe bet she'll pay you back your five grand

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well this logic applies to loaning companies money as well the five grand [Man discussing loans outside Amazon building]

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in debt is quote money good unquote and you don't lose sleep over loaning them

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that money if they have good credit and low debt to EBITDA doubt ratios right they

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have more than enough cash flow to cover that debt well so then what's bad debt

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to EBITDA ratio like what does that look like well it's when you have debt

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of more than three or four five times cash flow some companies go even higher [Bad debt-to-EBITDA ratio example]

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so if whatever dot-com has 50 million dollars in cash flow but three hundred

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million dollars in debt that's a really high debt to EBITDA ratio of three

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hundred over fifty or six to one or you just say

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6x if that debt costs a 8% a year to rent well then the total cost just to pay

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interest is 24 mil or almost half of all the company's cash flow for the entire

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company and remember they got to be paying down the principal as they go [Whatever.com's cash flow debt]

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along as well so it's a huge percentage of their cash flow just goes to the bank

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should whatever com stumble and maybe you don't know interest rates go up as

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well well then things could get ugly really fast and yes even uglier than [Deb driving a car in a storm]

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this so yeah you want low debt to EBITDA ratios not high ones unless you're a

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real dice roller there [Debt laid in hospital bed]

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