SDE vs EBITDA: Which One Values Your Business?

If you're thinking about selling your business, you've probably encountered two acronyms: SDE(Seller's Discretionary Earnings) and EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization). These are the two most common metrics buyers use to determine what your business is worth.

Use the wrong one, and you could undervalue your business by 30-50%. Here's exactly how they work, when to use each, and why it matters.

What Is SDE (Seller's Discretionary Earnings)?

SDE represents the total financial benefit the business provides to one owner-operator. The formula:

SDE "adds back" the owner's total compensation because the buyer is going to replace that compensation with their own. It answers the question:"How much cash does this business generate for one person who both owns and operates it?"

Example: A plumbing company shows $50,000 net income on its tax return. But the owner pays himself a $120,000 salary, runs $15,000 in personal expenses through the business, and has $10,000 in depreciation. SDE = $50K + $120K + $15K + $10K = $195,000.

The business isn't worth $50,000 — it's generating $195,000 in economic benefit. Big difference.

What Is EBITDA?

EBITDA strips out financing decisions (interest), tax strategies (taxes), and accounting choices (depreciation/amortization) to show operating profitability. The formula:

Notice what's NOT added back: the owner's salary. EBITDA assumes the business needs a professional manager, and that manager's salary is a real expense. It answers: "How much does this business earn after paying for professional management?"

Example: That same plumbing company has EBITDA of $195K (SDE) minus $120K (owner salary replacement) = $75,000 EBITDA. If the market replacement salary for a plumbing company GM is $90,000, adjusted EBITDA = $195K - $90K = $105,000.

When to Use SDE vs EBITDA

The choice depends on who is buying your business:

The general rule: If you run the business and your buyer will too, use SDE. If your buyer will hire someone to run it, use EBITDA.

Why the Wrong Choice Costs You Money

Here's where most business owners get tripped up. Say your business has:

• SDE of $400,000
• Owner compensation of $150,000
• EBITDA of $250,000 (after owner comp replacement)

If you use SDE and get a 3x multiple: $400K × 3 = $1.2M

If you use EBITDA and get a 6x multiple: $250K × 6 = $1.5M

Same business, $300,000 difference depending on the methodology. The EBITDA approach produces a higher value because the EBITDA multiple is higher (6x vs 3x) — institutional buyers pay more per dollar of earnings because they can extract more value through scale, operational improvements, and financial engineering.

The takeaway: If your business is large enough to attract institutional buyers ($3M+ revenue, $500K+ EBITDA), presenting on EBITDA often produces a higher valuation. But only if you actually have professional management in place — if the buyer has to hire a $150K manager, that comes off the top.

Industries That Don't Use Either

Some industries use entirely different valuation metrics — our breakdown of valuation multiples by industry covers the full picture:

• SaaS companies: Valued on revenue multiples (ARR × 3-12x) because they reinvest earnings into growth
• Dental/medical/vet practices: Valued as a percentage of annual collections (60-85%)
• Insurance agencies: Valued on revenue/book of business (1.5-3x revenue)
• CPA firms: Valued at 80-150% of gross revenue
• Banks: Valued on price-to-tangible-book-value

Using EBITDA for a SaaS company growing 40% annually would dramatically undervalue it. Using SDE for a dental practice misses the collections-based framework that every dental buyer uses.

How to Calculate Your SDE

Start with your tax return and add back:

1. Your total salary (W-2 wages + any draws)
2. Health insurance, retirement, and benefits paid for you personally
3. Personal vehicle expenses run through the business
4. Personal travel, meals, and entertainment
5. Family members on payroll who don't work full duties
6. One-time expenses (lawsuit settlement, equipment replacement, move)
7. Interest and depreciation

Be conservative. Buyers will scrutinize every add-back. If you can't justify it with documentation, don't add it back.

The Bottom Line

SDE and EBITDA aren't just accounting metrics — they determine which buyers see your business and what they're willing to pay. Getting this right is the first step to maximizing your exit value.