Sellers discretionary earnings

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What seller's discretionary earnings means

SDE is commonly used in discussions about owner-operated businesses. It typically starts with pre-tax profit and adds interest, depreciation and amortisation, one working owner's remuneration and supported discretionary or non-recurring items. Definitions vary between transactions, so the calculation needs to be written out.

The owner contribution is crucial. A business that needs a full-time owner-manager is different from one with a paid management team. SDE does not describe a passive investment return unless the cost of the work required has been accounted for separately. It also does not equal the cash an owner can safely take home.

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Calculate SDE from a consistent starting point

Choose the period and reconcile the starting profit to the accounts. If you begin with profit after income tax, add income tax back once to reach a pre-tax basis. Do not add it again when the starting point is already pre-tax profit. Use the same discipline for interest and depreciation.

Identify the remuneration and benefits of the one working owner whose role is included in the measure. If several owners work in the business, the work done by the others still needs a realistic continuing cost. Assess each extra adjustment using the evidence principles in our EBITDA adjustments guide.

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A worked seller discretionary earnings calculation

Assume the following annual NZD figures for a hypothetical business. The $100,000 starting profit is before income tax and after all the expenses listed below.

This does not mean a buyer receives $215,000 after debt repayments, income tax, reinvestment and working-capital needs. The example shows a calculation, not a valuation or a promised return.

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SDE vs EBITDA: account for the owner's work

SDE commonly adds back one working owner's remuneration. An EBITDA measure for a managed business should include an appropriate cost for the management work the business needs. Moving between the two therefore requires more than changing the label.

In the example, if a replacement manager costs $90,000 a year and all other assumptions stay the same, earnings after that replacement cost would be $125,000. The owner may choose to do the work instead, but their time still has an economic cost. Our EBITDA versus profit guide explains the other differences in the earnings bridge.

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Questions a buyer should ask

• What does the owner do each week, and what qualifications or relationships does the role require?
• Which family members or other owners work in the business, and are they paid a continuing market cost?
• Are proposed discretionary expenses truly removable without harming sales or operations?
• Do the figures reconcile to accounts, payroll and supporting records?
• What capital expenditure and working capital will the buyer need after completion?
• Have the same adjustments appeared year after year?

These questions help connect the earnings figure with buying-business due diligence. A high add-back total is not a substitute for sustainable trading.

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Use SDE carefully in a valuation

A valuation comparison needs compatible earnings definitions, business characteristics and transaction evidence. Do not multiply SDE by an EBITDA multiple, or assume a multiplier from another country or sector fits your business. The price and payment terms also depend on assets, liabilities, risk and the transaction structure.

We help owners work through the business valuation process, including the relationship between owner involvement and financial performance. A transparent SDE schedule makes the assumptions visible for that discussion.