When should I use EV/EBITDA instead of P/E for equity valuation?
Both EV/EBITDA and P/E are price multiples, but my CFA study notes say they serve different purposes. When is one better than the other? Are there industries where one clearly dominates? I'd appreciate a practical framework for choosing between them.
EV/EBITDA and P/E are both valuation multiples, but they measure different things and are appropriate in different situations.
Fundamental Difference:
- P/E = Price per share / Earnings per share → equity value to equity holders' income
- EV/EBITDA = Enterprise Value / EBITDA → total firm value (equity + debt - cash) to pre-interest, pre-tax, pre-depreciation earnings
Use P/E When:
- Companies have similar capital structures (leverage levels)
- Earnings are positive and relatively stable
- Comparing equity-only returns to shareholders
- The industry has low capital intensity (tech, services, consumer brands)
Use EV/EBITDA When:
- Companies have different leverage levels — EV/EBITDA neutralizes the effect of debt because EBITDA is before interest
- Earnings are negative but EBITDA is positive (common in turnarounds, high-growth firms)
- Capital-intensive industries where depreciation policies distort P/E (telecom, utilities, airlines, real estate)
- Cross-border comparisons where different tax regimes make net income incomparable
- Evaluating takeover targets (acquirers buy the whole enterprise, not just equity)
Practical Framework:
| Scenario | Preferred Multiple | Reason |
|---|---|---|
| Comparing Hawkins Telecom (D/E = 2.0) vs. Caldwell Wireless (D/E = 0.3) | EV/EBITDA | Different leverage |
| Comparing two software companies with no debt | P/E | Similar structure, low capex |
| Startup with $-5M net income but $3M EBITDA | EV/EBITDA | Negative earnings |
| Utility companies with massive depreciation | EV/EBITDA | D&A distorts net income |
| Mature dividend payer like Procter & Gamble-type firm | P/E | Stable positive earnings |
| M&A analysis for potential acquisition | EV/EBITDA | Valuing total enterprise |
Industry Conventions:
- Telecom / Infrastructure: EV/EBITDA (heavy depreciation, different leverage)
- Banking / Financial: P/E (or P/B) — EBITDA is meaningless for financial firms because interest is an operating cost
- Tech / SaaS: EV/Revenue or EV/EBITDA for pre-profit companies, P/E for profitable ones
- Real Estate: P/FFO (Funds from Operations) — a REIT-specific variant
Key Limitation of EV/EBITDA: It ignores capex. Two companies with identical EBITDA but vastly different maintenance capex requirements are not equally valuable. This is why some analysts prefer EV/EBIT or EV/FCFF.
Exam tip: If the question mentions companies in the same industry but with different debt levels, EV/EBITDA is almost always the better choice. If the question mentions negative earnings, P/E is undefined and EV/EBITDA is the way to go.
Practice multiple selection scenarios in our CFA Level I question bank.
Master Level I with our CFA Course
107 lessons · 200+ hours· Expert instruction
Related Questions
How do I map a CFA Ethics vignette to the right standard?
When does a duty to clients override pressure from an employer?
Do conflicts have to be disclosed before making a recommendation?
Why do CFA Ethics answers focus so much on the action taken?
What does a high-water mark actually do in a hedge fund fee calculation?
Join the Discussion
Ask questions and get expert answers.