Unreasonably Low Owner Salary for EBITDA and Searcher Expectations
January 25, 2022
by a searcher from Duke University in Tulsa, OK, USA
As I look at deals I typically only consider SDE since the businesses I am looking at are main street businesses with a SDE less than 2 million. I have noticed that some brokers insist on discussing the business in terms of EBITDA which I would be fine with except they always use unreasonably low owner salaries. I usually avoid this discussion by just focusing on SDE but I recently came across a business with a broker who only wants to talk in terms of EBITDA. When I pointed out that the owner salary was half what it should be the broker's response was quite poor.
What owner compensation and benefits are other searchers expecting? Is there a number other searchers are always using for their personal calculations?
from Wake Forest University in Winston-Salem, NC, USA
- SDE is for one full-time owner-operator; sadly, many brokers fail to do a spouse/second owner replacement cost. The other side of the coin also applies, If they are less than full-time (aka semi-absentee) then there is an addback/adjustment to take that into account too.
- the difference between SDE and adjusted EBITDA is one normalized owner salary (not what the seller has been paying themselves, which could be much higher or lower) OR what it would cost to have a full-blown GM run the business for an absentee owner. This then depends on the complexity and size of the business, and the market/location. In the sub $1 mm size, that may be $65 to $100k. In the $1-5 mm range, that may be $100k to $150k, I routinely see actual salaries for GMs running the business for an absentee owner in this range in an average market (not rural and not NYC).
Also agree with ^redacted, focus more on your offer than on some of the inputs to the valuation. Unless there are major theoretical errors (like not including a spouse/second owner replacement cost, or not using a market rent rate) you are bound to have different assumptions than the seller/broker, and if one thinks a GM goes for $125k and the other $150k, that is just part of your assessment and range of assumptions that will be different. Can you imagine debating every input to a DCF model? Whole semesters are spent discussing beta, RF, and other factors that go into the discount rate. In the end, you are going to do some sensitivity analysis around it and know the minute that you hit save or print that it's out of date or incorrect.
from Eastern Illinois University in 900 E Diehl Rd, Naperville, IL 60563, USA
One other consideration if you are financing the purchase and a business valuation is being done, that valuation firm is going to factor into a normal salary. If you are over-paying for the business because all of the owner compensation has been added back, then often times the business will not value out. The only time I see the business still valuing out is if the owner is not at all involved in the day-to-day management of the business and there is another manager in place that handles 90+ of operations. Then sometimes they can add 100% back.
I hope this helps. Always happy to discuss. I run into this issue often on deals we look to finance. I can be reached at redacted