Lease Capitalization, Financial Agreements and EBITDA
Author(s)
Mulford, Charles W.
Turner, James
Singh, Vipul Pratap
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Abstract
EBITDA, earnings before interest, taxes, depreciation and amortization, is used by many firms
as a measure of performance in financial covenants and incentive compensation agreements.
In 2009, when the FASB, in conjunction with the IASB, likely begins requiring firms to report
virtually all leases as capital leases, we expect calculated measures of EBITDA to increase. As
a result, firms may find unexpected slack in financial covenants and increases in incentive
compensation that are unrelated to real improvements in performance. In anticipation of the
change in accounting for leases, companies will want to revise contracts that employ EBITDA
to ensure that unanticipated consequences are avoided.
This research report examines the effects of lease capitalization on EBITDA in cases where it
is employed in financial agreements. Our focus is on companies noted to employ EBITDA in
financial covenants or incentive compensation agreements with significant exposure to
operating leases. For a sample of 25 companies we recalculated EBITDA, treating operating
leases as though they were capital-lease commitments. For some firms, we found significant
increases in EBITDA, with a sample-wide median increase of 7.7%
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Date
2007-11
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Text
Resource Subtype
Technical Report