Seller's discretionary earnings
Discretionary earnings describe the total return available to a single working owner. It is the standard base for valuing small owner-operated companies.
SDE = operating result + one owner's remuneration + private costs + one-off costs + depreciation
Legitimate add-backs
- The remuneration and benefits of one working owner
- Private costs run through the company, evidenced line by line
- Genuinely one-off items: a legal dispute, a failed project, a move
- Depreciation, where the assets are not due for replacement
Add-backs that will be rejected
Recurring costs described as one-off. Marketing spend removed on the grounds that a buyer would not continue it. Salary for a role that has to be filled by someone. Each of these is reversed during an investigation, and the reversal costs more credibility than the adjustment was worth.
When to stop using it
With more than one active owner, or where the buyer intends to appoint a manager, the measure overstates what is available. From that point EBITDA with a market salary deducted is the honest base.
Background reading
- Discretionary earnings in a valuation (https://www.businessforsale.eu/knowledge-base/sellers-discretionary-earnings-sde-en)