Valuating a Business: SDE or EBITDA
SDE and EBITDA are both financial metrics used to assess the profitability of a company, but they focus on different aspects of a company’s financial performance.
SDE stands for “Seller’s Discretionary Earnings.” It is a measure of a company’s earnings that is calculated by adding up the net income, owner’s salary, and other non-cash expenses such as depreciation, amortization, and interest expense. SDE is often used to value small businesses or to determine how much income a business generates for its owner. SDE considers the cash flow available to the owner after all the business expenses have been paid.
EBITDA stands for “Earnings Before Interest, Taxes, Depreciation, and Amortization.” It is a measure of a company’s profitability that shows how much earnings the company generates before accounting for certain expenses. EBITDA is often used in financial analysis to compare the profitability of different companies, as it eliminates the impact of different financing and accounting strategies. EBITDA does not include interest expenses, taxes, depreciation, and amortization, which are considered non-operating expenses.
In summary, SDE is a measure of the cash flow available to the owner of a business, while EBITDA is a measure of a company’s operating profitability. SDE includes owner’s salary and other non-cash expenses, while EBITDA does not include interest expenses, taxes, depreciation, and amortization.
How to calculate the SDE
To calculate the SDE you need to start with the company’s net income and add back certain expenses that are not essential to the ongoing operations of the business but may be necessary for the current owner to maintain the current level of earnings.
Here’s the formula to calculate SDE:
SDE = Net Income + Owner’s Salary + Depreciation and Amortization + Interest Expense + Non-Recurring Expenses + Other Non-Essential Expenses
Here’s a breakdown of each component:
- Net Income: This is the company’s total revenue minus all expenses, including operating expenses, interest, taxes, and any other charges. It is the company’s earnings after all costs have been considered.
- Other Non-Essential Expenses: These are expenses that are not necessary to the ongoing operations of the business but may be necessary for the current owner to maintain the current level of earnings. Examples may include travel expenses, entertainment expenses, or subscriptions to professional organizations.
- Owner’s Salary: This is the salary paid to the current owner of the business. This is added back because a new owner may have a different salary requirement or may choose to take their salary in a different form.
- Depreciation and Amortization: This is the non-cash expense that reflects the wear and tear on equipment, buildings, and other assets.
- Interest Expense: This is the amount of interest the company pays on its debts, such as loans, bonds, or other financing arrangements.
- Non-Recurring Expenses: These are one-time expenses that are not expected to occur again in the future, such as legal fees, restructuring costs, or a large purchase of inventory.
By adding up these components, you can calculate the SDE, which provides a measure of the cash flow available to the owner after all business expenses have been paid. This metric is often used to value small businesses or to determine how much income a business generates for its owner.
How to calculate EBITDA
EBITDA is calculated by taking a company’s earnings before interest, taxes, depreciation, and amortization. The formula for calculating EBITDA is as follows:
EBITDA = Net Income + Interest Expense + Tax Expense + Depreciation + Amortization
Here’s a breakdown of each component:
- Net Income: This is a company’s total revenue minus all expenses, including operating expenses, interest, taxes, and any other charges. It is the company’s earnings after all costs have been considered.
- Interest Expense: This is the amount of interest the company pays on its debts, such as loans, bonds, or other financing arrangements.
- Tax Expense: This is the amount of taxes the company pays to the government on its profits.
- Depreciation: This is the decrease in value of a company’s assets over time. It is a non-cash expense that reflects the wear and tear on equipment, buildings, and other assets.
- Amortization: This is like depreciation, but it applies to intangible assets, such as patents, copyrights, or trademarks. It reflects the decrease in value of these assets over time.
By adding up these components, you can calculate a company’s EBITDA. This metric is often used by investors, analysts, and lenders to evaluate a company’s financial performance, as it provides a measure of its operating profitability before accounting for certain expenses.
When to apply SDE
For main street businesses, it is typically more appropriate to use SDE rather than EBITDA for valuation purposes. The reason for this is that SDE considers the owner’s salary and other non-cash expenses that are unique to small businesses, which may not be captured by EBITDA. This is important because small businesses often have a significant owner involvement and the owner’s salary is a major expense that affects the profitability of the businesses.
In addition, main street businesses may have different financing and accounting strategies than larger businesses, which can impact their EBITDA calculations. SDE, on the other hand, provides a more accurate representation of the cash flow available to the owner after all business expenses have been paid.
To sum up, SDE is a more appropriate valuation metric for small businesses because it reflects the unique characteristics of these businesses and provides a more accurate picture of their financial performance.
When to apply EBITDA
EBITDA is often used to value mid-market businesses for several reasons:
Comparable Metrics: EBITDA is a widely accepted metric for valuation and is often used as a benchmark in the market. This means that it is easier to compare the valuation of one business to others in the same industry or market.
Focus on Operating Performance: EBITDA focuses on the operating performance of the business by excluding non-operating expenses like interest, taxes, depreciation, and amortization. This provides a clearer picture of the business’s operating profitability, which is important for investors and potential buyers.
Flexibility: EBITDA provides flexibility in the valuation process as it allows for adjustments to be made for one-time or non-recurring expenses that may not reflect the ongoing operating performance of the business. This flexibility allows for a more accurate valuation of the business.
Investor Preference: Many investors prefer using EBITDA to value mid-market businesses because it allows for easier comparison to other businesses and is seen as a more objective metric.
In conclusion, EBITDA is a more appropriate valuation metric for mid-market businesses because it provides a clearer picture of the operating performance of the business, is widely accepted in the market, and allows for flexibility in the valuation process.
Alfredo Gonzalez
International Business Group
Coral Gables, FL
Alfredo Gonzalez is an economist from the University of the Pacific and holds a degree in economic development from Vanderbilt University. Additionally, he obtained a law degree from the Universidad Santa María (USM) de Caracas.
In Venezuela, he served as the head of the Superintendency of Foreign Investments (SIEX) and was the founding-president of the Bank of Foreign Trade (BANCOEX).
Currently, Alfredo serves as the managing director of his own business brokerage firm in Coral Gables, Florida. He is an active member of the Florida Association of Business Brokers (BBF) and the International Association of Business Brokers (IBBA).
The Lease Can Prevent Your Transaction from Closing
Get your lease ready before you sell! Instruct your seller to start thinking about the future at lease renewal time.
Get your lease ready before you sell! Instruct your seller to start thinking about the future at lease renewal time.
Over 80% of the return you will make on your business will come when you sell. Do not let your landlord oversee your transaction.
The time to negotiate is when you are leasing or renewing a lease. Keep these things in mind at the time of renewal. At other times you are bound by the terms of your lease.
3 things you can do when negotiating a new lease.
1. Make sure the lease is freely assignable. You do not want to go to the landlord for approval to sell. This can kill a deal and all future deals.
2. Build defined renewal options into the lease. A buyer using SBA financing will need a lease agreement with a term or options as long as the loan term. This is typically 10 years.
3. Do not personally guarantee the lease. The personal guarantee puts the tenant’s own assets on the line should their business not be able to pay the rent or other lease obligations.
Preparing your Buyer for discussions with the landlord:
- Importance of properly timing your start and finish dates.
- The lease is the last item of due diligence.
- The buyer should be in contact with the landlord within 24 hours of DD acceptance.
AND DON’T FORGET YOUR COMMISION!!!
As a Licensed Real Estate Agent, you have just negotiated a real estate lease. This is standard practice. Don’t leave money on the table!
Roberta Caputo
President & CoFounder, Capital Business Solutions
Deerfield Beach, FL
Licensed Broker, Alabama, Florida, and Kentucky
- State Vice Chair, Business Brokers of Florida
- Past President, South District, Business Brokers of Florida
- Proud Recipient of the BBF Chairman’s Award
- Multiple Winner of the Top Dealmaker Award
- 18 Year Annual Winner of the Million Dollar Plus Award
- CBB (Certified Business Broker)
- CMEA (Certified Machinery and Equipment Appraiser)
- CSBA (Certified Senior Business Analyst)
- Author and Material Expert for Kaplan University – Thirty Hour Training Series for Business Brokerage – Three Part Training Series for Succession Planning
- Member of APMAA (Association of Professional Merger and Acquisition Advisors)
- IBBA (International Business Brokers Association)
- Business Advisory Council
- Society of Business Analyst
An Award-Winning Event Indeed
Our recent awards ceremony was a fantastic event to recognize and honor the BBF’s best of the best and to recognize several individuals for their exemplary dedication to our great association. In addition, the event served as a testament to the exceptional skills of the top-producing business brokers and showcased the power of co-brokering. Collectively we continue to make our mark in the world of business intermediaries.
It was great to see so many familiar faces and quite a few new ones. Even with the early morning awards breakfast starting time, there was great excitement from the over one hundred and thirty folks in attendance. I was honored to have Mrs. Roberta Caputo, BBF Vice Chair, as my co-host of the event. Hearing her share background information and particular details of many award recipients was fantastic. Her insight and glowing personality were the perfect match for this special occasion.
The BBF had record-breaking 209 top-producing award winners for the year 2022. As an association, our top producers sold just shy of one billion dollars in businesses, which is an outstanding accomplishment. What makes these numbers even more exceptional is our business intermediaries co-brokered almost thirty percent of the 1161 deals closed last year. Demonstrating yet again the value of co-brokering to our buyers and sellers, along with other intermediaries.
The list of winners is quite long, too long to share here in this article. However, the complete list of winners is showcased on the BBF member section of our website, and I encourage each of you to review this list to congratulate your fellow members on their extraordinary achievements. With that said, I want to highlight the best of the best across the whole state, as it takes a considerable amount of work to outperform all the highly skilled professional intermediaries in our association.
From the over three hundred plus co-brokered deals across the state, Rick Gruber in the Tampa District took the “Most Co- Brokered Deals” award. In addition, Tampa District gave us another top producer of closing fifty-four deals, awarding the “Most Done Deals” for the state going to George Antonaklas. Finally, the North Florida District had the intermediary who produced the “Highest Deal Value” for the whole state, John Geiwitz. We are honored to have such talent in our association, raising the bar for next year’s award winners.
I would be remiss if I didn’t acknowledge the accomplishments of our service award recipients. As the Chairman, I must decide who I felt impacted my role in leading the BBF. While there were many people to choose from, however, there were two individuals that stayed at the top of my list, so I decided to honor them both. Therefore, I was pleased to bestow the “Chairmans Award” to Mr. Mark Habib and Mr. George Rosen. This is the first year that we’ve recognized one of our affiliates. Many of us in the association know this gentleman as one of the best closing attorneys in the state. For over 40 years, he has closed hundreds, more likely a thousand deals. What is little known is that Mr. Steven Kutner has been quite generous of his time to our association, providing legal advice where needed, and has been instrumental in drafting quite a few of the documents we use daily in our deals. For this, we honor Mr. Kutner with the “Exceptional Service Award” and wish to thank him for his service and dedication to the BBF over the past 23 years.
The highest and most prestigious award in the BBF was created in honor of one of our founding members Mr. Ken Stebbins. This award is passed from the 2021 recipient Mr.John Hoyt to recognize the member who has shown exceptional dedication and sacrifice to the BBF. This individual has been instrumental in many of the improvements we all enjoy over the past several years. In addition, whenever there is a request for help, he raises his hand repeatedly. It is an honor to see Mr. Paul McNally receive the “Ken Stebbins Award”.
In closing out this incredible event, we want to acknowledge an exceptional person who was not only an amazing business intermediary but was instrumental in inspiring his daughter to become one of our association’s best intermediaries, business owners, and incredible leaders. Unfortunately, with great sorrow, we lost Mr. Jean Kruger a few months back, so we felt it befitting to honor Mr. Kruger with the “Honorary Membership” award by presenting this to his loving daughter Mrs. Roberta Caputo.
We are the biggest and best business co-brokering association globally, with over two hundred award winners to prove it. I congratulate you all and look forward to your successes in the next year.
Joe Shemansky CBI, M&AMI, CM&AP
Chairman
Business Brokers of Florida
How To Make 7 Figures By Preparing A Great Package
If you want to sell more businesses at a quicker pace, preparing a detailed business information package can help you achieve that 7-figure income. We often receive comments from other brokers on how quickly our businesses sell at Crowne Atlantic Business Brokers. I respond by stating “it’s all in the preparation of our package.” We take the packaging of our businesses very seriously. We believe every business is unique, and our job is to highlight those unique attributes and features, as well as how this business can work for a new owner. We borrow the eyes of a buyer and look at buying a business from their perspective. Of course, keep in mind that the best package in the world can’t fix horrible and/or inconsistent numbers. This article is assuming the business you’re selling is truly viable.
Let us compare the business package to a bouquet of flowers. Many brokers offer bits and pieces of separate data such as a profit and loss in one file, and a tax return in another file, and if you’re lucky, an equipment list. The data looks like separate flowers spread out on a table; Buyers then see a mishmash of data with no organization or thought. It makes it easy to see why stores sell flowers in a bouquet. The flowers look better when beautifully packaged together. The information package helps tell the story of a business, and offers brokers an opportunity to add context to the financial data.
Instead of challenging Buyers to picture the operation for themselves, tell them the story. Give them a gorgeous bouquet of flowers instead of pieces of flowers thrown on a table.
When you create a package, you need to share with the buyer truly helpful and descriptive information on the business. The bare minimum standard list of items to have in your business package include:
- Executive Summary
- Location
- Financials
- Confidentiality
- Summary of Assets Included
- Equipment List
- Staff Chart
- Photos/Video Links
This list is quite basic, and your package should contain these items. When the main items are in your business package, look at it once more and ask yourself, “are you looking at this business package from the buyer’s lens?” Do you truly elaborate on the features in each of these sections of the package?” Are you thinking ahead to what questions a buyer will ask about the financials, the operation of the business, the layout of the facility, and the current team in place? Are you mentioning why features are or are not ideal, and how it affects the income of the business?
Easy Guide of What to Say
PACKAGE ITEM | COMMON DESCRIPTION | HOW TO ELABORATE |
---|---|---|
Location | Located in Central Florida | Located in an industrial area with great access to I-4. Cheaper rent. Business is next to reciprocating businesses that refer work back and forth |
Staff | Owner has 5 employees | Owner has one manager who manages evening hours and one who manages daytime hours, one bookkeeper, and one salesperson who has been there for 10 years. None of the staff is family related. |
Financials | Financials Tax return or P&L with no commentary | Show addbacks for 3 years; list any out of the norm expenses or situations...and there is something within 3 years at some point to list which stands out for every business I have ever seen. |
Equipment List | Partial equipment list | It is vital for you to understand what tangible and intangible assets are included in the transaction to be able to properly convey that information to the buyer. Prepare this in advance the best you can. |
AR/AP | Often this isn't clear in the package | DON'T OMIT! This is important to mention if there are receivables and if they are or are not included. |
Photos | One photo...maybe | This is your chance to create a visual of what this company physically looks like, or what the set-up of the business is. If there is a home office, see if you can get a photo of the space. If there is anything remotely fun, highlight it. Any business can be exciting! |
Lastly, most buyers ask the same set of questions. Help manage those expectations, and have these questions answered in the package. For example, when my daughter was 5, I told her “most adults are going to ask you the same questions over and over.” Questions like: How old are you? Do you like school? Where do you go to school? What do you want to be when you grow up?
I told her to expect these questions, and have some answers prepared. Why do adults ask the same questions? Many don’t know how to start a conversation with a child, or how to relate to a child, so they start with the same basic questions. It is the same thing with a potential buyer of a business.
Here is a sample list of basic questions I receive from most potential business Buyers:
- Why is the owner selling?
- How did you arrive at the valuation?
- Is there customer concentration?
- Are there repeat customers?
- What’s the competition?
- And most importantly, what is the growth potential?
It amazes me that most brokers cannot answer these questions about their listing. If you know you don’t have updated financials and the buyers are going to want it, why are you even putting up the listing? Can you really sell a business quickly when you, or the business, isn’t properly prepared? Sellers hire brokers to do one job…sell their business.
Being proactive and getting these questions answered in the package helps the potential buyer immensely, and saves time to weed out buyers that are not interested.
Sellers hire brokers to do one job – to sell their business. It is imperative that a broker not only makes sure that the business is ready to be sold, but that the broker is prepared to interact with potential buyers. Can a broker really sell a business quickly when the broker, or the business is not properly prepared?
When you have a properly prepared package, the Buyer’s first impression of the business is a beautiful bouquet of flowers. Offering Buyers a properly packaged business is one way to attain the 7- figure income as a business broker.
Jackie Ossin Hirsch
Crowne Atlantic Business Brokers
Five Tips for Successfully Navigating Due Diligence
As a business broker, one of your most critical responsibilities is guiding your clients through the transaction process. A crucial part of this process is conducting due diligence, which involves verifying the information provided by the seller to ensure that the buyer clearly understands the business’s operations and financials. Due diligence can be challenging, but with the following tips, you can navigate this stage successfully:
1. Know Who’s Who: As the point person during the transaction, you should orchestrate the communication with all parties involved. Get to know the buyer’s advisors – there’s always someone who has their ear – and build credibility early. Work with the seller to determine when the landlord should be contacted and involve the seller’s accountant as soon as possible – they often don’t move as quickly as you’d like them to.
2. Have Regular Meetings Along the Way: At the beginning of due diligence, hold a formal kick-off meeting to remind everyone of the milestones, re-set expectations, and discuss the best way to share information. Regular (weekly) meetings are crucial for maintaining communication and building trust between the buyer and seller. Hiding any issues with the business will damage everyone’s credibility, so it’s better to have the seller disclose them early.
3. Document Everything: It’s essential to document every communication with the buyer and keep copies of all documents provided by the seller. This documentation can be helpful if any disputes arise during the transaction. Electronic deal rooms are a great option to protect you in the long run – plenty of good options exist.
4. Have a Plan B: There’s always a chance that the transaction will fall through – every broker has lost a deal in due diligence – so it’s essential to have a backup plan in case this happens. The standard BBF APA does not limit you or the seller from discussing the business with other interested buyers. Keep fielding inquiries, setting meetings, and answering questions with backup buyers and their brokers. If your deal dies, you won’t want to start at the beginning again!
5. Keep Your Focus and Handle Your Emotions: Although you may feel as if you are almost done, the due diligence stage is where the sale can be made or lost, so it’s critical to remain focused. This is also when inexperienced buyers and sellers feel the most stress. As a broker, you should remain emotionally unattached and handle the transaction with the calmness that comes from being an expert in the field and having a history of successful transactions!
Ryan Cave, MBA, CBI, M&AMI, CMAP
President
South Florida District