Updated
SDE = profit before income tax + interest + depreciation/amortization + one owner’s deducted compensation + eligible adjustments
Seller's Discretionary Earnings (SDE) is a normalized measure of the total financial benefit a single full-time owner-operator receives from a business, commonly used to value small businesses for sale. The formula is: SDE = Net Income + Owner's Salary (if run through payroll) + Interest + Depreciation/Amortization + One-Time or Discretionary Expenses, with each add-back needing supporting documentation.
Examples use made-up numbers. Education only, not tax, legal or investment advice.
The setup
Illustrative example: a business reports $90,000 in net income.
The owner's payroll salary was $60,000, interest expense was $5,000, depreciation was $10,000, and one documented one-time repair cost $8,000.
The math
SDE = $90,000 + $60,000 + $5,000 + $10,000 + $8,000 = $173,000, rounded to the nearest thousand.
Owner question to ask: "Can I document every add-back with a receipt, invoice, or payroll record, or is some of it based on memory?" Buyers and lenders typically discount or reject add-backs that cannot be substantiated.
Unique caveat: an owner's draw should never be added back when calculating SDE. A draw is a distribution of equity, not an expense that was deducted from net income, so adding it back double-counts money that was never subtracted in the first place and inflates SDE incorrectly — only an owner's documented payroll salary qualifies as an add-back. SDE is also a pre-tax, single-owner metric and generally is not appropriate for businesses large enough to require a full management team, where EBITDA tends to be the more standard measure used in valuation discussions instead.
This definition is educational and does not replace advice from a licensed accountant or tax professional familiar with your specific books. Owners should confirm treatment with their bookkeeper before using this figure in a loan application, valuation, or tax filing. Small differences in chart-of-accounts setup can change how this number is calculated, so consistency period over period matters more than precision in any single month.
Confirm the classification for your entity before applying it.
Continue with the full explainer lesson.
Definition source
IBBA — Glossary defines Add-backs and Discretionary Earnings (DE), also called Seller’s Discretionary Earnings. DE excludes income taxes, non-operating/nonrecurring items, depreciation, amortization, interest and one owner’s entire compensation. Proposed adjustments require evidence and must not be counted twice.
Questions owners ask
Does SDE equal the cash a buyer takes home?
No. Debt, investment needs, taxes, replacement labor and transaction terms can affect cash.
Can I apply an EBITDA multiple to SDE?
Not without reconciling definitions. SDE and EBITDA measure different earnings.
Should I add back a draw?
Not if it was not deducted as an expense in the starting earnings.