Seller discretionary earnings (SDE) is a measure of a business’s financial performance that takes into account the owner’s compensation and other expenses that are not directly related to the business’s operations. SDE is typically used in small business transactions where the owner is heavily involved in the day-to-day operations of the business and takes a salary or compensation that is not reflective of the business’s true earnings.
To calculate SDE, start with the business’s net income and add back any owner salary or compensation, depreciation and amortization expenses, interest expenses, and any other expenses that are not directly related to the business’s operations. SDE is often used as a basis for determining the value of a small business since it provides a more accurate reflection of the business’s true earnings than net income alone.
For example, let’s say a small business has a net income of $200,000, but the owner also takes a salary of $100,000 and there are additional expenses of $50,000 that are not directly related to the business’s operations. The SDE for this business would be $350,000 ($200,000 net income + $100,000 owner salary + $50,000 other expenses). SDE is an important measure to consider when buying or selling a small business, as it provides a more complete picture of the business’s financial performance and profitability. Work with a business broker or consultant who has experience in small business transactions to help you calculate SDE and determine the appropriate valuation for your business.