Metrics Guide

Every metric, fully explained

No black boxes. Every formula, every input, every assumption — documented and auditable.

SDE (Seller's Discretionary Earnings)

Net Income + Owner Comp + Interest + D&A + Non-recurring

SDE represents the total economic benefit available to a single owner-operator. It is the most commonly used earnings metric for small business acquisitions (typically under $5M in revenue). SDE adds back the current owner's compensation and benefits because the buyer will replace them.

How it's used

Primary metric for businesses under $5M revenue. Used with SDE multiples (typically 2.0x-4.5x) to arrive at an implied valuation range.

Important caveat

SDE assumes one owner-operator. For businesses with multiple partners or significant management teams, EBITDA may be more appropriate.

EBITDA

Operating Income + Depreciation + Amortization

alt:Net Income + Interest + Taxes + D&A

EBITDA measures operating profitability before the effects of capital structure, tax environment, and non-cash accounting charges. It is the standard earnings metric for mid-market transactions.

How it's used

Primary metric for larger businesses (>$5M revenue). Used with EBITDA multiples (typically 3.0x-6.5x).

Important caveat

EBITDA does not account for capital expenditure requirements, working capital needs, or debt service obligations.

Adjusted EBITDA

EBITDA + Add-backs - Subtractions

Adjusted EBITDA normalizes EBITDA by removing one-time, non-recurring, or non-operating items. Common adjustments include owner perquisites, one-time legal costs, above/below-market rent, and related-party transactions.

How it's used

The adjusted figure is typically what lenders and investors use for loan sizing and valuation. Every adjustment should be documented and defensible.

Important caveat

Lenders may scrutinize add-backs that exceed 20% of EBITDA. All adjustments should have clear documentation.

CFADS (Cash Flow Available for Debt Service)

Adj EBITDA - Taxes - Maintenance CapEx - Change in NWC - Owner Salary

CFADS approximates the cash flow available to service acquisition debt after essential expenses. It deducts a reasonable owner salary replacement, estimated taxes, maintenance capital expenditures, and working capital changes from Adjusted EBITDA.

How it's used

Used to calculate DSCR and determine maximum debt capacity. SBA lenders focus heavily on this metric.

Important caveat

This is an approximation for screening purposes. Actual CFADS depends on specific deal structure and entity type.

DSCR (Debt Service Coverage Ratio)

CFADS / Annual Debt Service

DSCR measures how many times annual cash flow can cover the annual loan payments (principal + interest). A DSCR of 1.25x means cash flow is 25% more than the required debt payments.

How it's used

SBA 7(a) lenders typically require a minimum DSCR of 1.15x to 1.25x. Higher is better. DSCR directly determines how much debt the business can support.

Important caveat

DSCR below 1.0x means the business cannot service the debt. DSCR between 1.0x and 1.15x may not meet SBA minimum requirements.

Net Working Capital (NWC)

Current Assets - Current Liabilities

NWC measures the short-term liquidity of the business. It represents the difference between what the business owns in the near term and what it owes in the near term.

How it's used

A typical acquisition includes a normalized level of working capital. Deviations from this level may result in purchase price adjustments at closing.

Important caveat

Negative NWC may indicate liquidity concerns. However, some business models (e.g., subscription) naturally operate with negative NWC.

Gross Margin

(Revenue - COGS) / Revenue

Gross margin measures the percentage of revenue remaining after direct costs. It indicates pricing power and production efficiency.

How it's used

Compare against industry benchmarks. Gross margin below 20% may leave limited room for debt service after operating expenses.

Important caveat

Gross margin definitions vary by industry. Ensure COGS includes only direct costs and not allocated overhead.

UFCF (Unlevered Free Cash Flow)

Adj EBITDA - Taxes - Maintenance CapEx - Change in NWC

UFCF represents cash flow before debt service obligations. It is used for DCF (Discounted Cash Flow) analysis and represents the cash flow available to all capital providers.

How it's used

Used in DCF valuation models and as the basis for enterprise value calculations.

Important caveat

UFCF does not deduct interest or debt payments. It is a pre-debt-service metric.

AR Days / Inventory Days / AP Days

AR: (AR / Revenue) × 365 | Inv: (Inv / COGS) × 365 | AP: (AP / COGS) × 365

These working capital cycle metrics measure how quickly the business collects receivables, turns inventory, and pays suppliers.

How it's used

AR Days >60 may indicate collection issues. Inventory Days >90 may indicate obsolescence risk. AP Days indicate payment terms with suppliers.

Important caveat

These metrics are calculated from year-end balances, which may not represent typical operating levels for seasonal businesses.

BuySideMetrics is a decision-support and modeling tool. These metric definitions are for educational purposes. Not a CPA audit, review, or assurance engagement. Not tax or legal advice.