Seller's discretionary earnings (SDE), sometimes called seller's discretionary cash flow, is the standard profitability measure for owner-operated lower-middle-market and main-street businesses. It is built on top of EBITDA but adds back the owner's total compensation and a defined set of discretionary expenses, on the theory that a single owner-operator captures all of these benefits as personal income.
How it is calculated
SDE = EBITDA + Owner's W-2 wages + Owner's payroll taxes and benefits + Discretionary expenses
Typical add-backs include the owner's salary, bonus and personal benefits, family members on payroll above market rate, personal vehicle and travel, owner-paid health insurance and retirement contributions, and one-time items unrelated to the going business.
When SDE is used vs EBITDA
The convention in business-broker and lower-middle-market M&A is roughly:
- SDE for businesses with a single owner-operator and EBITDA below ~$1–2M.
- Adjusted EBITDA once the business has a real management team and the owner could be replaced for ~$150–250K of fully-loaded compensation.
Above ~$2–3M of EBITDA, almost every institutional buyer (private equity, search funds, strategic acquirers) underwrites on Adjusted EBITDA. Sellers presenting an SDE-based asking multiple to a PE buyer typically see it converted: the buyer subtracts a market-rate replacement-CEO salary from SDE before applying its multiple, which can move the headline price by 1–3 turns.
SDE multiples
SDE multiples are generally lower than EBITDA multiples for the same business, because SDE is a higher number. Typical ranges:
- Main-street businesses (under ~$500K SDE): 2.0×–3.5×
- Lower-middle-market (~$500K–$2M SDE): 3.0×–5.0×
These ranges are tracked by the IBA Market Database and BVR's Pratt's Stats / DealStats.
Why it matters
For an owner-operator selling a business under ~$2M EBITDA, knowing whether the offer is on SDE or Adjusted EBITDA is the single most important pricing question, and frequent source of confusion in cross-buyer comparisons.
See also
- EBITDA — Earnings Before Interest, Taxes, Depreciation and Amortization — a measure of a company's operating profitability used as the base for most M&A multiples.
- EBITDA multiple — The ratio of enterprise value to EBITDA, the most common shorthand for what a business is worth in M&A. Industry, scale, growth and quality of earnings all move it.
- Normalization adjustments — Adjustments to reported earnings to remove one-time, non-operating or owner-specific items, producing a run-rate EBITDA that better reflects the ongoing business.
- Home-services M&A — Mergers and acquisitions in the home-services industry — HVAC, plumbing, electrical, roofing, pest control, landscaping, garage doors and adjacent verticals. A roll-up-heavy, PE-backed segment of the lower-middle market.
- Business valuation — The set of methods used to estimate the economic value of a company or its equity, almost always triangulated across several approaches into a defensible range.