Seller's Discretionary Earnings (SDE)
Total owner benefit, profit plus pay and perks, used to value sub-$1M businesses.
What SDE Measures
Seller's Discretionary Earnings is the full economic benefit a single owner-operator pulls out of a business in a year. It starts with net profit, then adds back the things one full-time owner uniquely receives or controls: salary, bonuses, and personal perks run through the company. Warrillow defines it as the total economic benefit an owner derives:
"Total economic benefit an owner derives -- profit plus salary, bonuses, and perks (car, travel) -- used to value sub-$1M businesses."
Warrillow, The Art of Selling Your Business, ch. 12
The logic is that a buyer of a small, hands-on business is buying a job plus a profit stream. SDE answers a buyer's real question: if I step in and run this myself, how much money does this thing put in my pocket each year? Because it folds the owner's pay back into earnings, SDE is normally a larger number than net profit or EBITDA for the same company.
SDE vs. EBITDA
SDE and EBITDA are close cousins, both restate the P&L to show profitability in a buyer's hands, but they part ways on owner pay. EBITDA assumes the business will be run by a hired manager, so it leaves a market-rate salary in as a cost. SDE assumes the buyer is that manager, so it adds the owner's pay back. The dividing line is size and owner involvement. As McDannell puts it:
"Like EBITDA but for smaller (sub-$1M) owner-involved businesses; adds back the owner's pay."
McDannell, Get Acquired, ch. 3
McDannell frames the practical choice as picking the right earnings metric for the business in front of you:
"Choose the right earnings metric by business size and owner involvement; SDE adds back owner pay for small owner-operated firms."
McDannell, Get Acquired, ch. 3
A useful rule of thumb: use SDE for small owner-operated firms, switch to adjusted EBITDA as the business grows large enough to be run by salaried management. The two metrics also carry different multiples, so a seller cannot simply move a number from one to the other and keep the same multiple.
How SDE Is Calculated
SDE is built through add-backs, the same recasting discipline used for EBITDA. Both Warrillow and McDannell treat it as a normalization exercise rather than a precise formula. Warrillow notes that a broker reaches it through adjustments parallel to, but not identical with, EBITDA adjustments:
"For very small businesses, a profit measure a broker arrives at via a similar (not identical) set of add-backs to EBITDA adjustments."
Warrillow, The Art of Selling Your Business, ch. 12
Typical add-backs include the owner's salary and distributions, personal vehicle and travel, one-time costs such as a rebrand, and interest. The aim is the same restatement Warrillow calls normalizing the P&L: showing the business's likely profitability once it changes hands. Gray-area add-backs should be flagged honestly, because every one of them resurfaces during due diligence and a quality-of-earnings review.
Why It Matters
For a sub-$1M business, SDE is the headline earnings figure a multiple is applied to, so it directly sets the asking price. Inflating it with aggressive add-backs invites retrading later; understating it leaves money on the table. The discipline is to compute a defensible SDE early, then use the sale-prep window to grow the underlying number and reduce owner dependence so the buyer is buying a business rather than a job.
Further Reading
Sources: McDannell, Get Acquired ch.3; Warrillow, The Art of Selling Your Business ch.12.