Ask ten owners what their business is worth and you will hear revenue multiples, gut feelings and what a friend sold for. Buyers think differently. They start with earnings, and specifically with one of two measures: Seller's Discretionary Earnings (SDE) or EBITDA.
SDE: the owner operator's number
SDE is the total cash benefit one full time owner receives from the business. It starts with pretax net income and adds back the owner's salary and benefits, interest, depreciation, amortization, and expenses that are personal or truly one time.
SDE is the standard for most Main Street businesses, roughly those valued under two million dollars, because the typical buyer will run the business themselves and replace the current owner.
EBITDA: the investor's number
EBITDA is earnings before interest, taxes, depreciation and amortization. Unlike SDE, it assumes the business pays a market rate salary to whoever runs it. Larger businesses with a management team in place, and buyers such as private equity firms, family offices and strategic acquirers, usually price on EBITDA.
Same business, two lenses. SDE answers "what does one owner take home?" EBITDA answers "what does the business earn if the owner is replaced by a paid manager?"
Add backs: where value is won and lost
Normalizing earnings, sometimes called recasting, means adjusting your financial statements to show what a new owner would actually receive. Legitimate add backs include:
- Owner salary, payroll taxes and benefits (for SDE)
- Personal expenses run through the business, when they are documented
- Truly non recurring costs, such as a one time lawsuit or a relocation
- Interest, depreciation and amortization
- Above market rent paid to a related party, adjusted to market
Just as important is what not to add back. Aggressive add backs that cannot be proven destroy buyer trust and often unravel in diligence. If you cannot document it, leave it out.
From earnings to value
Once earnings are normalized, an advisor applies sector and size appropriate multiples and checks the result against real comparable transactions. Multiples move with growth, customer concentration, recurring revenue, owner dependence and the quality of your systems and team. That is why two businesses with identical earnings can sell for very different prices.
The result should be a defensible value range, not a single hopeful number. A range you can explain line by line is the one that holds up when a buyer's CPA starts asking questions.
Want to apply this to your business? Request a free saleability assessment or book a confidential call.
