Problem $3$

Among others, Maravai LifeSciences Holdings and Roblox have covenants based on EBITDA. EBITDA seems to be a measure of size. Management can engage in transactions that are "small" compared to EBITDA. Management cannot engage in transactions that are "large," without the consent of creditors. Ordinary transactions of buying and selling inventory will be small. Large transactions that involve mergers or disposals of major might require the consent of creditors. A covenant might limit selling assets, say $"$no disposal of assets more than $3\mathrm{.}5$ EBITDA." Sometimes it is a limit on how much additional debt can be taken on$,$ say $"$no debt can be taken on that results in leverage greater than $8\mathrm{.}0$ to $1\mathrm{.}0$ of EBITDA."

Required:

What is the role of covenants in debt contracta?

Earnings is the result of subtracting the costs of doing business from revenue. EBITDA adds back several costs, so that the Earnings does not reflect all costs. Maravai states this: The key measures we use to determine how our business is performing are revenue and Adjusted EBITDA. Adjusted EBITDA reflects adjustments to eliminate the impact of certain items, including certain non$-$cash and other items, that we do not consider representative of our ongoing operating performance

Adjusted EBITDA is a non$-$GAAP financial measure that we define as net income $($loss$)$ adjusted for interest expense, provision for income taxes, depreciation, amortization and equity$-$based compensation expenses.

Does it make sense to use an earnings figure to represent operating performance that does not subtract taxes and depreciation? For example, does depreciation represent ongoing performance or does it represent decisions made several years ago when the equipment was purchased?

Does it make sense to use EBITDA as a measure of size for limiting some activities? Perhaps you disagree that EBITDA makes sense to use as a measure of size. Feel free to explain that position instead.