What it means
Oil, gas and mining companies spend heavily to find new reserves, and much of that spending fails because many wells and sites turn out to be empty. Accounting rules let companies treat the cost in different ways.
Under the successful efforts method, the cost of unsuccessful exploration is written off straight away as an expense, while under the full cost method it is capitalised (recorded as an asset) and written off gradually. Because the two methods give very different profit figures, analysts need a way to compare firms fairly.
Adding back exploration expense removes the difference, so a company using successful efforts accounting looks comparable to one using full cost. The measure also adds back interest, depreciation and amortisation in the usual way.
The version described here keeps tax as a cost, consistent with EBIDA. Many people in the industry use the closely related EBITDAX, which also adds back taxes, and the two names are sometimes mixed up.
Always check the definition in the report, because the choice of whether to include tax makes a real difference to the number. Lenders to oil and gas companies pay close attention to this type of measure.
Loan agreements often contain covenants, which are promises about financial health, set in terms of a ratio such as debt to EBIDAX or EBITDAX. The ratio shows how many years of earnings would be needed to repay borrowings.
The figure has limitations. It excludes exploration spending that is real money leaving the business, and a company that spends heavily to replace its reserves may look healthier than it is.
Commodity prices also swing widely, so earnings can be volatile, and analysts usually look at several years of data. Managers outside the energy sector rarely meet this measure, but its logic applies elsewhere.
Whenever a business has a large, lumpy cost that is treated differently under different accounting policies, analysts add it back to create a fair comparison. The skill is to understand which costs are genuinely one-off and which will keep returning, because the second kind should not be ignored.
In practice
Real-world examples.
Example
A bank lends $20,000,000 to an oil producer and sets a covenant that debt must not exceed 3.5 times EBIDAX. The company reports every quarter to show it is within the limit. If it breaches the covenant, the bank can demand repayment or charge a higher interest rate.
Example
An analyst compares two gas companies, one using successful efforts and the other using full cost accounting. She uses EBIDAX to remove the effect of the different treatment of exploration spending. She also compares reserves replaced per dollar of exploration spending.
Example
A mining company reports a drop in net income after a year of heavy drilling. Management presents EBIDAX to show that the underlying operations are still performing well. Shareholders ask what share of the drilling was needed to replace reserves.
Formula
Calculation
EBIDAX = Net income + Interest + Depreciation + Amortisation + Exploration expense
(Tax is already deducted in net income, so it is not added back in this version.)
Worked example: an oil and gas producer reports net income of $400,000. Interest is $150,000, depreciation and amortisation total $500,000 and exploration expense is $250,000.
EBIDAX = $400,000 + $150,000 + $500,000 + $250,000 = $1,300,000
If its debt is $3,900,000, then Debt / EBIDAX = $3,900,000 / $1,300,000 = 3.0 times, meaning that three years of this earnings figure would repay the debt.Case study
Seen in the real world.
Redrock Petroleum is a fictional exploration and production company with debt of $10,000,000. In a year with heavy drilling, it reported net income of just $500,000 after writing off $2,000,000 of exploration costs on dry wells.
Its lenders were uneasy until the chief financial officer presented EBIDAX. She added interest of $600,000, depreciation and amortisation of $1,900,000 and exploration expense of $2,000,000 to net income, giving EBIDAX of $5,000,000. Debt to EBIDAX was therefore $10,000,000 / $5,000,000 = 2.0 times.
This illustrative case shows how the measure can ease concerns by showing the earning power behind a poor year. However, the lenders also asked about how much of the exploration spending was needed to replace reserves, recognising that the figure alone does not tell the whole story.
Watch out
Common mistakes.
- Assuming EBIDAX and EBITDAX are always identical, when one may keep tax as a cost and the other adds it back.
- Ignoring the exploration spending that was added back, even though it is real cash needed to replace reserves.
- Using the measure outside the extractive industries, where exploration expense has little meaning. Applying it elsewhere only creates confusion.
Questions
People also ask.
Which industries use EBIDAX?
It is used mainly in oil, gas and mining, where exploration costs are a major and uneven expense.
Why is exploration expense added back?
Different accounting methods treat it differently, so adding it back makes companies more comparable.
Is EBIDAX the same as cash flow?
No, it ignores capital spending, changes in working capital, tax timing and debt repayments.
From the founder's library
Take it further with the book.
Build your financial confidence beyond this definition. Shihan's full-length guide, Accounting Fundamentals, takes the same plain-English approach and turns it into a complete, practical playbook for non-finance managers, business owners and students - with chapter-end quiz answers and presentation slides included.
25% off with code MMHQ25, applied at checkout. Priced in USD - checkout may show the equivalent in your local currency.
View the book and save 25%Related