EV/EBIT: When Depreciation Can’t Be Ignored
The Ratio That Sees Through the Smoke—But Sometimes Misses the Fire
Imagine walking into a steel mill. The heat, the scale, the sheer weight of the assets—this isn’t SaaS. This is the world where depreciation is more than an accounting footnote. It’s a force that shapes reality. And it’s here that the EV/EBIT ratio emerges—not as a number, but as a lens. A lens that, in the wrong setting, can either reveal gold or send you chasing pyrite.
The Ratio with X-Ray Vision—But Not Night Vision
Enterprise Value to Earnings Before Interest and Tax (EV/EBIT) is often lauded for its simplicity. Strip away the noise of capital structure, taxes, even interest—what’s left is the core engine of the business. Unlike the more fashionable EV/EBITDA, EV/EBIT forces you to see depreciation and amortization for what they are: economic costs, not just accounting entries.
But here’s the catch—like a pair of prescription glasses, the sharper your focus, the more dangerous it is to look the wrong way. In asset-light tech, depreciation is a whisper. In airlines, cement, utilities, or telecom, it’s a roar. Ignore it, and you’ll miss the warning sirens.
Depreciation: The Hidden Hand in Heavy Industry
Consider two companies—one a cloud software darling, the other a railroad titan. Both have identical EBITDA. But one’s EBIT is gutted by depreciation. Why? Because tracks, turbines, and towers age. Assets wear out. Reinvestment is destiny, not discretion.
- Industrials, Utilities, Materials: Depreciation looms large. A low EV/EBITDA may flatter, but EV/EBIT exposes the capital churn. It’s the difference between a well-oiled machine and a rusting hulk.
- Tech, Media, Services: Depreciation is an afterthought. Here, EV/EBIT can understate value, especially if intangible investments (like R&D) aren’t capitalized.
In these sectors, EBIT is the reality check. It tells you: “This business isn’t just about today’s profits—it’s about tomorrow’s repairs.”
Where the Shadows Fall: When EV/EBIT Can Deceive
But let’s invert the lens. What if you apply EV/EBIT with the same zeal to asset-light companies? Here, you risk over-penalizing the business for depreciation that barely matters. Or worse, you miss the fact that some costs—like expensed R&D—aren’t captured at all.
EV/EBIT shines brightest when:
- The sector is capital-intensive (think: airlines, utilities, energy).
- Maintenance capex is hard to fake, and depreciation is a faithful proxy.
- Future cash flows depend on continuous asset renewal.
But it flickers in sectors where:
- Assets are light, and intangibles are expensed, not depreciated.
- Depreciation schedules are out of sync with economic reality.
- Creative accounting masks the true cost of staying in business.
Sector Surgery: Where EV/EBIT Tells Different Stories
| Sector | Depreciation Weight | EV/EBIT Effectiveness | Key Watchpoint |
|---|---|---|---|
| Utilities | Heavy | High—captures asset renewal costs | Regulatory depreciation schedules |
| Industrials | Heavy | High—EBIT mirrors true cost structure | Capex vs. maintenance split |
| Telecom | Moderate–Heavy | High—network depreciation matters | Technology obsolescence risk |
| Technology (SaaS) | Light | Low—may understate value | Intangible investments expensed |
| Consumer Staples | Light–Moderate | Medium—depends on plant intensity | Brand value not captured |
Under the Hood: Beyond the Ratio
Financial ratios are maps, not territory. EV/EBIT is a compass in the fog—but only if you know where the rocks are. In capital-heavy industries, it’s a sanity check on the sustainability of profits. In asset-light sectors, it can be a funhouse mirror, distorting rather than clarifying.
Look past the headline number. Ask: What story is depreciation telling? Is it the pulse of a business that must constantly rebuild, or the fading echo of a bygone investment?
The Final Tally: Depreciation as Destiny
In the end, the power of EV/EBIT is in knowing when to listen to what depreciation is trying to say. In the right hands—and the right sector—it’s a truth serum. In the wrong hands, it’s just another figure on a crowded dashboard.
Investing isn’t just about the numbers—it’s about knowing when the numbers matter. And in the world of capital intensity, depreciation is never just background noise. Sometimes, it’s the whole symphony.