Business Valuation

The first step in marketing a business for sale is always to establish a sales price.  For most businesses, this will be a calculation based upon a measure of the firm’s profitability using either EBITDA or SDE. The importance of well kept books and tax returns that readily identify owner's benefits can not be overstated.

EBITDA is an acronym meaning Earnings Before Interest Depreciation and Amortization.  This is a fairly straightforward calculation and attempts to determine the cash profit generated by a company’s operation.

SDE is the Seller’s Discretionary Earnings. This is the measure of the earnings of a business and is the most common measure of cash flow used to value a small business.  In order to determine SDE, the net taxable profit of the business is used as a baseline and things that are financially beneficial to the owner of the business are added to the net taxable profit.  These add backs may include the owner’s compensation, interest payments, depreciation and amortization, as well as discretionary expenses, such as automobile expense, cell phone, meals, entertainment, and travel.  Additionally, extraordinary and non-recurring expenses such as the settlement of a lawsuit for instance are added back to the calculation.  Once the SDE is determined, the next step is to determine the appropriate multiple of this value.

Since the1990's, several databases have been developed which track private business sales in the United States.  There are, on average, approximately 10,000 sales of private businesses a year, so a great deal of data has been generated.  When these sales are categorized according to NAICS code, you have the ability to compare sales across industry types and across the United States to give a fairly accurate calculation of what a business may sell for. 

Sales prices may be compared to these measurements in a number of different ways, generally as multiples of EBITDA or SDE, or Sales Price to annual revenue.  Among the databases we use are The Business Reference Guide, PeerComps and DealStats.

The process then becomes: 1) calculate EBITDA or SDE; 2) determine an appropriate multiplier and 3) arrive at the sales price.  This is the basic valuation of a business.