SDE multiplier: what moves the multiple on a small business
Short answer
An SDE multiple is the price divided by seller's discretionary earnings. It's the most common way owner-operated businesses are priced. The multiple reflects risk: businesses with larger, steadier, more transferable earnings get higher multiples; owner-dependent, concentrated or declining ones get lower.
Because the multiple is applied to SDE, inflated add-backs raise the price twice over. Verify the SDE before you debate the multiple.
When a broker says "these sell for two-and-a-half to three-and-a-half times", they're describing a range of SDE multiples. The useful question is where in that range this business belongs, and whether the SDE it's applied to is real.
A scorecard for the multiple
Score a business on each factor. More "lower risk" answers justify a position higher in whatever range applies; more "higher risk" answers, lower.
| Factor | Lower risk | Higher risk |
|---|---|---|
| Owner's role | Manages managers | Does the key work |
| Customers | Many, recurring | Few, one-off |
| Top customer share | Small | Large |
| Trend (3 years) | Steady or growing | Declining or volatile |
| Books | Match returns and bank | Gaps, big add-backs |
| Staff | Stable, trained | High turnover, key person |
| Lease | Long, assignable | Short, uncertain |
| Equipment | Maintained | Deferred maintenance |
| Licences | Held by business or staff | Held only by seller |
| Competition | Barriers to entry | Easy to copy |
Worked example: a small error in SDE, multiplied
Illustrative example, not a market multiple
A seller lists SDE of $300,000 and asks 3.0 times: $900,000. Your rebuild finds $40,000 of add-backs without support, so verified SDE is $260,000. At the same 3.0, that's $780,000. The $40,000 error in SDE was a $120,000 error in price. Now suppose the scorecard also suggests the business sits lower in the range, because the top customer is 30% of revenue: at 2.7 times $260,000, the figure is $702,000. Both corrections are legitimate, and they compound: from $900,000 to $702,000 is a 22% difference, most of it from checking the SDE. That's why you negotiate the earnings first and the multiple second. (We don't recommend multiples; these figures only show the arithmetic.)
Where the range comes from
Appraisers use databases of completed sales and adjust. Brokers draw on their own deals. Listing sites show asking multiples, which are seller hopes. None of these will tell you where your specific business sits; the scorecard above and your own diligence will. For formal numbers, a credentialed appraiser is the right source, and SBA lenders order one for every acquisition.
Using the scorecard: a worked comparison
Illustrative example, not market multiples
Two pool service companies each have $200,000 of verified SDE. Company A: 320 weekly accounts, no customer over 2%, three technicians who've been there years, the owner handles sales and scheduling, new trucks, five-year lease. Company B: 140 accounts plus two HOA contracts worth 35% of revenue, the owner services half the route himself, older trucks, lease ending next year. Score them: A is lower risk on customers, staff, equipment and lease; B is higher risk on all four. Whatever range of multiples an appraiser finds for pool companies, A belongs near the top and B near the bottom, and B's price should also reflect hiring a technician to replace the owner's route work. Same SDE, very different businesses.
Verify the SDE first
Everything above assumes the SDE is real. Build it from the tax return, rate each add-back, and check revenue against the bank. See seller's discretionary earnings and the SDE calculator.
Buying a business at a multiple of earnings: what '3x' really means
When someone says a business sells for '3x earnings', they mean the price is three times a measure of annual earnings, usually seller's discretionary earnings (SDE) for small businesses or EBITDA for larger ones. It sounds like a three-year payback, but it isn't: you still have to pay yourself, the lender, taxes and reinvestment out of those earnings.
Always ask which earnings the multiple applies to and whether those earnings were verified.
"Three times earnings" is the most common shorthand in small business buying. It's useful for comparing listings and dangerous if you take it literally.
The payback illusion
Illustrative example, not a real deal
Price: $750,000, which is 3x SDE of $250,000. You put in $75,000 and borrow the rest. Out of $250,000 of SDE you pay yourself $80,000, set aside $10,000 for equipment, and pay about $109,300 a year to the lender (an example $675,000 loan at 10.5% over 10 years). That leaves about $50,700 before income tax. Your $75,000 of equity comes back in roughly a year and a half of that surplus, but only after the business has also paid your salary and the lender: the total cost of the business is repaid over the 10-year loan.
Questions to ask about any multiple
- Multiple of what: SDE, EBITDA, net income or revenue?
- Which year: last fiscal year, TTM or an average?
- Verified, or the seller's recast?
- Does the price include inventory, equipment and working capital?
- What are the terms: cash at close, seller note, consulting fees?
Then put the price through a real cash test with the DSCR calculator. For more on multiples, see business valuation multiples.
Questions to ask before you accept any multiple
- Is this a multiple of SDE, and which owner costs were added back?
- Is it based on completed sales or asking prices, and how many?
- Were the sales similar in size, industry and location?
- What's included in the price: inventory, equipment, receivables, working capital, real estate?
- Where does this business sit on the scorecard above, and why?
- Does the price pass a debt coverage test on verified SDE after your salary and capex?
What sits on top of the multiple
A price quoted as "3x SDE" rarely tells you what you will actually pay. Before you compare it with anything, find out:
- Whether inventory is included, or added at cost on top at closing.
- Whether working capital, receivables or cash are included.
- How much of the price is paid at closing and how much over time through a seller note.
- Whether the seller's transition, training and non-compete are included or paid separately.
- Which year's SDE the multiple was applied to: last year, an average, or a trailing twelve months.
Two businesses "at the same multiple" can cost very different amounts once these are counted. Compare total cash out of your pocket and total debt, not the multiple. This is the same reason a multiple from one industry tells you little about a business in another.
The SDE figure is also only as good as its add-backs. Rebuild it yourself with the SDE calculator before you apply any multiple.
Where reliable multiples come from
We don't publish multiple ranges, because we can't verify them for your industry, size and year. Credentialed appraisers (ASA, CBA, ABV, CVA, BCA) draw on databases of completed private company sales and can explain which transactions they used. Business brokers see recent sales in their market. Lenders see the valuations behind the loans they make. When someone quotes you a multiple, ask which source it came from, how many comparable sales it is based on, and whether those sales were the same size and industry as the business you are looking at.
Write down your own reasoning for any multiple you accept, and the evidence for it.
Frequently asked questions
What is a good SDE multiple?
There's no universal 'good' number. It depends on size, industry, growth and risk. Appraisers derive it from comparable transactions; brokers often suggest a range. Use the factors on this page to judge whether a quoted multiple matches the business's risks.
Does a higher SDE mean a higher multiple?
Often, yes. Larger earnings are usually more stable and attract more buyers, including those who can borrow more.
Should I negotiate the multiple or the SDE?
Usually the SDE. A documented earnings figure is easier to argue for than a different multiple, and sellers accept price changes more readily when they're tied to evidence.
Does OKtoBuy suggest a multiple?
No. OKtoBuy's Deal Check never gives a multiple, value or price; the optional Value estimate applies a published multiple range and is only an estimate. It checks the SDE the multiple would apply to.
Is 3x earnings a good price for a small business?
It depends on the business's size, risks and which earnings are meant. A multiple only makes sense next to the earnings it's applied to and the business's risk profile. OKtoBuy's Value estimate isn't an appraisal; a credentialed appraiser can give one.
Does a 3x multiple mean I get my money back in three years?
No. That would only be true if all earnings went to repaying the price, with no salary, interest, taxes or capex. Real payback on your cash is usually much longer.
Sources
Related guides
General information, not legal, tax, financial or investment advice. Rules and lender practices change; check the linked sources and talk to your attorney, CPA and lender about your deal. Examples with named numbers are illustrations, not real businesses. OKtoBuy's Deal Check does not value businesses or give price opinions.