Why Do Brokers Use SDE Instead of EBITDA for Small Business Valuations?
Brokers use SDE (Seller's Discretionary Earnings) for small business valuations because it shows the total cash flow available to an owner-operator who will work in the business, while EBITDA assumes a market-rate management salary remains deducted — which doesn't reflect how most small business buyers operate.
What SDE and EBITDA measure
SDE adds back the owner's salary, benefits, and discretionary expenses to net profit. EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) assumes a market-rate salary for management remains deducted.
The difference matters because in owner-operated businesses, the owner's compensation typically combines market-rate salary, return on invested capital, and lifestyle benefits that wouldn't transfer to a new owner-operator. Canadian small business sellers often mix personal and business expenses through their corporation, making SDE a clearer picture of actual earning power available to an owner-operator.
Why SDE works better for owner-operated businesses
Buyers of small businesses typically plan to work in the business full-time, so they care about total cash flow available to them personally — not just the profit after paying a manager.
Among Advisor Standard profiles with disclosed valuation methodology information, 78% focused on businesses under $5 million in revenue list SDE as their primary earnings metric.
SDE multiples for small businesses typically range from 1.5x to 3.5x, while EBITDA multiples for mid-market companies typically range from 4x to 8x. The lower multiples reflect both the higher risk profile of smaller businesses and the different buyer pool.
When brokers switch from SDE to EBITDA
Most business brokers use SDE for businesses under $2 million in revenue or under $500,000 in earnings, and switch to EBITDA for larger transactions.
EBITDA becomes more appropriate when a business has professional management in place and the owner's role is more strategic than operational. Private equity and strategic acquirers almost always use EBITDA because they have existing management infrastructure and evaluate acquisitions based on profit after replacement management costs.
How the metrics affect deal pricing
The choice between SDE and EBITDA doesn't just change how earnings are calculated — it changes the entire valuation framework. When the owner's salary would need to be replaced by a hired manager, SDE and EBITDA diverge significantly. For a buyer who will work in the business, the higher SDE figure captures the full earning potential available to them. For a financial or strategic buyer with existing management, EBITDA better reflects the business's earnings after true operating costs — and those buyers apply different multiples to reflect that difference.
This article is for informational purposes only and does not constitute financial, legal, or business advice. Every business sale is different. Before making decisions about valuation, pricing, or engaging an advisor, consult a qualified professional familiar with your specific situation.
Ready to get your business valued? Connect with business valuation advisors who can walk you through SDE, EBITDA, and which metric makes sense for your sale.