To value a small business you want to buy, verify its seller’s discretionary earnings (SDE), multiply by a market multiple for its industry, adjust the multiple for the risks you find, and then test whether the price can carry your loan. The multiple gets the attention, but most valuation mistakes happen in the first step: the earnings number was wrong.
Step 1: Verify the earnings, not the listing
Listings show the seller’s SDE. Your job is to rebuild it from documents. Get three years of P&Ls and the matching federal tax returns, plus 12 months of bank statements.
- Tie the P&L to the tax return. Revenue on the P&L should match gross receipts on the return. Small gaps happen; large gaps need an answer.
- Tie revenue to bank deposits. Deposits that are much lower than reported revenue are the most serious red flag in small deals.
- Test every add-back. Owner salary, depreciation, and interest are standard. “One-time” costs that repeat each year are not. Use the SDE calculator for the arithmetic.
Step 2: Choose the method
| Method | When it fits |
|---|---|
| SDE multiple | Owner-operated businesses. The standard for most deals under a few million dollars. |
| EBITDA multiple | Larger businesses with a paid manager, where the owner is not in the daily work. |
| Revenue multiple | A cross-check only. Two businesses with the same revenue can have very different profits. |
| Asset value | A floor: what the equipment and inventory are worth if the business stopped. Matters for equipment-heavy businesses. |
| Discounted cash flow | Rare in small deals. Useful when cash flow will change a lot, for example after a big contract ends. |
Step 3: Start from a market multiple
Across 9,586 small-business sales reported in 2025, the average was 2.61x SDE and 0.69x revenue. Industries differ:
| Industry | Reported sales | SDE multiple |
|---|---|---|
| Laundromats | 169 | 4.12x |
| HVAC | 123 | 2.80x |
| Plumbing | 61 | 2.62x |
| Landscaping & Yard Service | 211 | 2.56x |
| Car Washes | 32 | 4.73x |
| Restaurants | 1774 | 2.26x |
| Auto Repair & Service | 247 | 2.70x |
| Vending Machines | 72 | 2.24x |
Source: Sundance Financial, from BizBuySell data on 2025 closed sales. Full table of 113 industries in the SDE calculator.
Step 4: Adjust for risk
The market multiple is an average. Move down from it when a business has more risk than average, and up when it has less.
- Customer concentration. If one customer is a large share of revenue, losing it changes everything. Ask for revenue by customer.
- Revenue retention and trend. Recurring customers and contracts are worth more than one-time jobs. Falling revenue needs an explanation.
- Owner dependence. If customers buy from the owner personally, or the owner holds the license, the value may leave with the owner.
- Lease. A lease that ends before your loan does is a deal risk and a financing problem.
- Equipment age. Old machines mean capital spending soon after you buy.
- Working capital. Know what inventory and receivables come with the business, and what you must fund on day one.
Step 5: Test the price against your financing
A price is only workable if the business can pay for it. Compute annual debt service on the loan you need, subtract a fair salary for yourself or a manager from SDE, and divide. That ratio is the debt service coverage ratio (DSCR). Many lenders look for 1.25 or more; a stricter target such as 1.5 leaves room for a bad year. See how lenders size an SBA loan.
Due diligence checklist before the LOI
- Three years of P&Ls and federal tax returns.
- Twelve months of bank statements and merchant or card-processor statements.
- Support for every add-back over a few thousand dollars.
- Revenue by customer for the last two years.
- The lease, with all amendments and renewal options.
- Equipment list with ages and service records.
- Payroll records and key employee roles.
- Licenses and permits, and whether they transfer.
Red flags when buying a business
- Revenue on the P&L does not match the tax return or bank deposits.
- The seller cannot produce documents for add-backs.
- “Cash business” claims that income was not reported.
- Large changes in margins from year to year with no clear cause.
- The seller resists questions about customers, staff, or the lease.
FAQ
How many times profit is a business worth?
Small businesses sold for an average of 2.61x SDE in 2025 reported sales. The right multiple for one business depends on its industry and its risks.
Should I pay for a business valuation?
For a first decision, no. Do the steps above or use a memo. Before closing, your lender orders a valuation when the deal requires one, and a quality of earnings review is worth it on larger deals.