Question on valuation and what is included / excluded on SDE Multiple

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May 05, 2023

by a searcher from Gonzaga University in Bend, OR, USA

I am working with a seller on a proprietary deal and we are figuring out a fair multiple of SDE for the valuation. My question is what is included/excluded in that multiple evaluation for an asset sale?

Here is a breakdown:

$500k - SDE

$50k - Note Receivable from Owner
$80k - Note Receivable from other (not confirmed who yet)

$75k - Cash $995k - Fixed Assets $94k - Notes payable on Fixed Assets $12k - On Credit Cards

Let’s say we land on a 3x multiple at $1.5mil. What typically happens with the cash, notes receivable, notes payable, and credit card debit? How does that get split up of included in the $1.5mil and what is excluded? SBA loan will be in play to purchase.

New searcher here, any feedback would be helpful.

Thanks!

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Reply by an intermediary
from Boise State University in 800 W Main St, Boise, ID 83702, USA
SDE is an indicator of earnings. It is normalized EBITDA plus the normalized salary of one working owner.

If you are doing an Asset Purchase (versus an Equity Purchase), you are purchasing the tangible assets, inventory (if any), and goodwill. The seller keeps the cash, accounts receivable, and pays off all the liabilities including accounts payable and long-term debt. It is referred to as a "cash free, debt free" transaction. Don't confuse a multiple with the assets and/or liabilities that are included in a sale.

Some buyers attempt to negotiate to purchase some working capital (like the cash and AR's net of AP's). You can do that but keep in mind the price goes up as the typical Asset Sale price does NOT include working capital.

Here's a link to an article I wrote for BizBuySell that may help:https://www.bizbuysell.com/learning-center/article/cash-flow-sde-ebitda-what-business-buyers-should-use-to-decide-what-to-pay/
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Reply by an intermediary
from The University of Chicago in Chicago, IL, USA
^redacted‌ and ^redacted‌ answers are the industry norms developed originally for small B2C companies. where there was no A/R and financials did not show A/P. Over time, this approach has been applied to larger and B2B businesses. Doing so, a buyer comes out ahead if the business is an asset light business. If this approach is applied to an asset intensive business, buyer very likely have cash flow problems and low IRR.
In you example, you have not identified Customer A/R, Inventory and A/P. Are the financials on cash-basis? Or does the business not have these items? If the business is on cash-basis, it is extremely easy to increase SDE before selling.
Also, is fixed asset value book value or FMV? You should look into CapX need. For example, if the average fixed asset spend is $300 k, 3 X may be too high.
One more point: You CAN NOT assume seller's debt b/c new lender will want first lien on fixed assets.
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