Cracking the Code: Uncovering the Mysteries of SDE and EBITDA for Small Business Owners

I recently had lunch with a successful local business owner. During our conversation I asked a simple question. Do you know the difference between SDE and EBITDA? Guess how they responded… He looked at me and asked, “EBA… WHAT?”

If you are asking the same thing, you not alone. As a small business owner, financial terms like SDE and EBITDA can seem intimidating and confusing. But fear not - we're here to help you crack the code!

First things first: What do these acronyms even stand for?

SDE stands for Seller Discretionary Earnings.

EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization.

SDE Explained

SDE is a measure of a business's cash flow and profitability that takes into account the owner's compensation and other discretionary expenses. In other words, it’s the amount of money that the owner of a business can take home after paying all the expenses associated with running the business. SDE is commonly used in the valuation of small businesses, particularly small businesses that are led by an owner-operator.

EBITDA Explained

EBITDA is a measure of a company's profitability that looks at its operating income before the deduction of interest expenses, taxes, depreciation, and amortization. EBITDA is often used as a proxy for a company's cash flow, and is commonly used in the valuation of larger businesses, particularly businesses that are led by a professional manager.

The Differences

It is important to note that while both SDE and EBITDA are measures of a company's financial health, they represent different aspects of it. SDE takes into account the owner's compensation and other discretionary expenses, while EBITDA does not. Additionally, EBITDA does not account for changes in working capital, capital expenditures, or taxes, which can have a significant impact on a company's cash flow.

Why It Matters

Understanding your SDE and EBITDA can help you make informed decisions about pricing, financing, and growth opportunities. For example, if you're considering selling your business, knowing your SDE can help you determine a fair asking price. And if you're looking to expand, knowing your EBITDA can help you evaluate potential investments.

But how do you calculate SDE and EBITDA for your own business? The formulas can be complex, but there are plenty of resources available to help you. Consider working with a financial advisor or using online calculators to get started.

Ultimately, the key to cracking the code of SDE and EBITDA is to approach it with a curious and open mind.

Don't be afraid to ask questions or seek help from experts. And remember, these concepts are meant to help you make smarter financial decisions - so embrace them!