Business Valuation Basics
Understanding SDE, EBITDA, multiples, and valuation methods
Valuation Quick Reference
2-3x
SDE Multiple
Small business typical
3-5x
EBITDA Multiple
Mid-market deals
$100K-$1M
SDE Range
Small business target
3 Years
Lookback Period
Financial review
Seller Discretionary Earnings (SDE)
Primary metric for businesses under $1M in earnings
SDE represents the total financial benefit to an owner-operator. It is the starting point for most small business valuations.
SDE Calculation
Net Profit (from tax returns)
$85,000
+ Owner's Salary
$75,000
+ Owner Benefits
$15,000
+ Depreciation
$12,000
+ Interest
$8,000
+ One-time expenses
$5,000
SDE
$200,000
EBITDA for Larger Businesses
Used for businesses with $1M+ in earnings
EBITDA Components
- Earnings (net income)
- Before Interest
- Before Taxes
- Before Depreciation
- Before Amortization
SDE vs EBITDA
- EBITDA assumes management hired
- SDE includes owner compensation
- EBITDA for larger businesses
- SDE for owner-operated
Industry Multiples
Lower Multiples (1.5-2.5x)
- Retail stores
- Restaurants
- Personal services
- Labor-intensive businesses
- High owner dependency
Higher Multiples (2.5-4x)
- Professional services
- B2B recurring revenue
- Manufacturing
- Distribution
- Technology services
Income Approach
Values business based on its ability to generate future cash flow.
Capitalization Method
- Value = Earnings / Cap Rate
- Cap rate reflects risk
- Typical: 20-33% for small biz
- Inverse of multiple
DCF Method
- Project future cash flows
- Discount to present value
- Add terminal value
- More complex, rarely used
Market Approach
Values business based on comparable sales in the market.
Data Sources
- BizBuySell transaction data
- IBISWorld industry reports
- Business broker databases
- Pratt's Stats
- DealStats
Adjustments Needed
- Size differences
- Geographic location
- Industry nuances
- Economic conditions
- Deal structure
Asset Approach
Rarely primary method for operating businesses
When to Use
- Asset-heavy businesses
- Holding companies
- Distressed/liquidation
- Minimal earnings
Assets Considered
- Real estate
- Equipment (FMV)
- Inventory
- Accounts receivable
- Intangibles (limited)
Common Add-Backs
Standard Add-Backs
- Owner salary and benefits
- Family member wages
- Personal auto expenses
- Personal travel coded as business
- Non-recurring legal fees
Questionable Add-Backs
- Marketing cuts (not sustainable)
- Underpaid employees
- Deferred maintenance
- Above-market rent (related party)
Risk Factors Affecting Value
Value Decreasers
- Owner dependency
- Customer concentration
- Declining revenue
- Industry headwinds
- Lease uncertainty
Value Increasers
- Recurring revenue
- Diversified customers
- Strong management team
- Growth trajectory
- Proprietary systems