The short version
- Small businesses are priced on SDE, larger ones on EBITDA.
- SDE adds back the owner's full pay, EBITDA subtracts a market salary for a manager.
- An add back has to be real and explainable.
- Draws and one time income are not operating profit.
Profit Sets the Price
A buyer asks how much the business earns and how many years of that they will pay for. Revenue is not the driver. A company with seven million dollars in sales can sell for about two million when margins are thin.
What SDE Means
Seller's discretionary earnings, or SDE, is what one working owner could take out of the business. It includes salary, health insurance and perks. For deals up to roughly two million dollars it is the usual measure.
What EBITDA Means
EBITDA is used when a business is big enough that a manager must be paid and the owner has stepped back. It subtracts a market salary for the owner's role. Larger deals use it, and buyers often pay a higher multiple for it.
Most Main Street companies trade at about two to three times cash flow.
Add Backs Buyers Accept
An add back is a personal or one time cost removed to show true earnings, such as a one time legal bill or a family phone plan paid by the company. It must be real and explainable. A buyer will not accept money that just happened to show up.
What Does Not Count
Selling a truck or taking out a loan is not operating income. Owner draws are not an expense and not automatically cash flow. A careful recast sorts them out so the buyer sees one honest number.
Cash That Never Hit the Books
Income that was never recorded cannot be proven, so buyers do not pay for it. Saving twenty percent in taxes can cost two to three times as much in lost value.
Before You List
Ask your CPA for three to five years of recast statements, and update stale items like a vehicle you no longer own. Then read what buyers ask for in diligence and find your sale price.