SDE vs. EBITDA: Which Number Your Buyer Will Use

The mechanical difference

EBITDA is earnings before interest, taxes, depreciation, and amortization. Take pre-tax profit, add back interest, add back depreciation and amortization. That is it. The owner's salary stays in as an expense, at whatever a market salary would be for the person running the company.

SDE is EBITDA plus one owner's full compensation and benefits, plus the owner's personal expenses that ran through the business, plus one-time costs. SDE is always the larger number.

If a business has $300,000 in EBITDA and the owner takes $150,000 in salary and benefits, SDE is $450,000 before any other adjustments.

Why the multiples differ

An SDE multiple for a main street business typically runs from 2 to 3.5. An EBITDA multiple for a lower middle market business typically runs from 4 to 6. Owners see those ranges and assume they should be valued on EBITDA to get the higher multiple. The math does not work that way.

Using the example above, $450,000 in SDE at 2.5 is $1,125,000. $300,000 in EBITDA at 4 is $1,200,000. Close to the same place. The higher EBITDA multiple is applied to a smaller number, because a salary has been subtracted first. The two methods are two ways of describing the same cash flow.

The multiple gap exists for a reason. A buyer paying an EBITDA multiple is buying a company that produces earnings without their labor. They can hire a manager, or keep the one already there, and collect the difference. A buyer paying an SDE multiple is buying a job plus the earnings from doing that job. The job has value, but it also has risk, because the earnings depend on one person showing up.

Which one applies to you

The honest test is what happens if you take a month off. If the business keeps its customers, ships its orders, makes payroll, and closes new work without you, a buyer will value it on EBITDA, and the buyer pool includes private equity groups, family offices, and strategic acquirers who do not want to run it themselves.

If your absence for a month would show up in the numbers, the business is owner-operated, and buyers will value it on SDE. The buyer pool is individuals, often leaving corporate careers, who plan to run it. Some of them are excellent operators. All of them are buying the job along with the company.

Size is a rough proxy. Businesses under $1 million in SDE are almost always priced on SDE. Businesses with over $1 million in EBITDA and a management layer are almost always priced on EBITDA. In between is where it gets decided by the facts.

The in-between zone

A business with $700,000 in SDE and an owner who still runs sales is the common case. Some buyers will see it as an SDE business. A private equity group looking for a platform in that industry might see it as an EBITDA business if they can bring in a general manager. The right approach is to show both.

We present a lead earnings basis and a secondary one. For most owner-operated businesses, SDE leads and adjusted EBITDA sits next to it, calculated by subtracting a market salary for the role the owner fills. For a business with a management team, adjusted EBITDA leads. Either way, a buyer sees the number they are used to and can check it against the other.

The adjusted EBITDA figure has to use a market salary for the job as it is done today. If the owner is the general manager and head of sales, the replacement cost is a general manager and a head of sales, not one person at $80,000. Buyers who see an unrealistic replacement salary discount everything else on the page.

What this means for preparation

If you are two years from a sale and your business is in the in-between zone, the most valuable move is to move it toward EBITDA. Hire or promote a manager. Push customer relationships to your sales staff. Document the processes that live in your head. Take the month off and see what breaks, then fix that.

A business that crosses from owner-operated to management-run does not just get a higher multiple. It gets a different buyer pool, one that pays cash at closing more often, closes faster, and asks for less seller financing. That is often worth more than the multiple change.

If you are six months from a sale, there is not time for that, and it is better to present a clean SDE case than a weak EBITDA case.

A word on adjusted

You will hear "adjusted EBITDA" and "normalized EBITDA" used interchangeably. Both mean EBITDA after removing one-time items and personal expenses, the same adjustments that go into SDE, except the owner's compensation is replaced with a market salary rather than removed. When a buyer asks for adjusted EBITDA, that is what they want, with every adjustment listed and supported.

Two businesses, same profit

Two companies each show $250,000 in EBITDA and $2 million in revenue.

In the first, the owner is the general manager, runs sales, and takes $120,000 in salary. SDE is $370,000. A buyer values it at 2.5 to 3 times SDE, or $925,000 to $1,110,000, and the buyer is an individual who will step into the owner's role. The lender sizes the loan off SDE less a $100,000 salary for the buyer.

In the second, a general manager has run the company for four years at $110,000 and the owner works ten hours a week on strategy and banking. Adjusted EBITDA, with the owner's $60,000 salary added back and a $20,000 part-time replacement subtracted, is about $290,000. A buyer values it at 4 to 5 times, or $1,160,000 to $1,450,000, and the buyer pool includes search funds and small private equity groups.

The second business earns the same profit and sells for $200,000 to $350,000 more, to a buyer who pays more cash at closing and needs the seller for less time. The difference is the manager.

What lenders do with each

An SBA lender underwriting the first business subtracts a market salary for the buyer from SDE and checks coverage. If the buyer's salary need is high, coverage drops and the loan shrinks. An SBA lender underwriting the second business already has a manager in the numbers and can size the loan off adjusted EBITDA with a smaller adjustment. Conventional lenders and investor groups looking at the second business may not need SBA financing at all, which removes the SBA's constraints on seller notes and structure.

This is one reason the EBITDA business closes with less seller financing. The financing sources are wider and the earnings are easier to underwrite.

What we do with it

Every valuation we produce shows three bases side by side: SDE, adjusted EBITDA, and revenue. The revenue multiple is there as a sanity check, since some industries have well-known revenue rules of thumb. The lead basis is the one that fits how the business runs, and the multiple applied to it comes from closed transactions in that industry at that size. A buyer coming from any direction can find their number and see how it was built.