How to Value a Small Business Before You Buy It

If you're buying your first company, the asking price in the listing is the seller's opening position, not a fact. Your job is to build your own view of what the business is worth, and then to check whether its cash flow can carry the deal you have in mind.

I've spent 17 years on the sell side of M&A as a partner at Five Talents Financial Group. Then I crossed the table and bought a retail business that I now operate, and I teach finance at Asbury University. This is the process I walk buyers through: which earnings number to start from, which add-backs hold up, four ways to frame value, and the debt test that matters most when an SBA 7(a) loan is part of the plan. It's education, not advice on any particular deal.

Why valuation looks different from the buyer's chair

A broker values the business to set an asking price, and a lender values it to decide how much to lend. You value it to decide whether the price, the structure and your own life can all work at once. So I treat valuation as two questions:

1. What is the business worth? A range, built from verified earnings and a few methods that check each other.
2. What can the business afford to pay for itself? A price can look fair against market multiples and still fail once you add loan payments, a seller note and a reasonable salary for you.

In BizBuySell's Q3 2026 Insight Report, nearly half of surveyed buyers said businesses on the market are overvalued, and 78% said they expect to use SBA financing. Buyers who can defend their own number have an edge.

Step 1: Start with the right earnings number

Seller's discretionary earnings (SDE)

Most Main Street businesses are listed on SDE: pre-tax profit plus the owner's salary and benefits, interest, depreciation and amortization, and one-time or discretionary expenses. It tells you how much cash one full-time owner-operator would take out before paying any acquisition debt. But it hides a cost. If you'll hire a manager, or simply need a market wage, that money comes out of SDE first.

EBITDA

EBITDA is earnings before interest, taxes, depreciation and amortization, after a market salary for the owner's role. Larger companies are usually priced on it, and it matters for every SBA buyer because the lender's coverage test uses EBITDA.

Whenever you see a multiple, ask "a multiple of what?" Three times SDE and three times EBITDA are very different prices.

Step 2: Test every add-back

On the sell side, I saw that much of the real negotiation happens in the add-back schedule. Every add-back dollar gets multiplied.

Add-backs that usually hold up, when documented:

• The owner's pay and benefits, replaced in your model by what you or a manager will actually cost
• Interest, depreciation and amortization tied to the seller's debt and assets
• Truly one-time costs, such as a lawsuit settlement, with invoices to prove it
• Personal expenses that clearly won't continue under you

Add-backs that deserve hard questions:

• "Non-recurring" repairs that show up every year under a different name
• Family members on payroll who do real work you'll need to replace
• Below-market rent from a landlord who is also the seller
• Deferred maintenance or capital spending
• Revenue that depends on the seller personally

SBA's SOP 50 10 8.1 lets lenders make "prudent adjustments" to cash flow but asks for justification of items such as unfunded capital expenditures and non-recurring income. My rule of thumb: if you can't explain an add-back to a lender in one sentence, with a document behind it, leave it out of your base case.

Step 3: Value the business four ways

No single method gives you "the" value. I use four and look for agreement.

1. A multiple of SDE

Multiply verified SDE by a range of multiples typical for similar businesses. BizBuySell's Q3 2026 data shows an average cash flow multiple of 2.30x for businesses that sold for under $1 million and 3.73x for those that sold for more. Those are cross-industry averages from transactions brokers report voluntarily, so treat them as a sanity check rather than a price.

2. Comparable sales

Look at what similar businesses actually sold for, not what they were listed for, and adjust for growth, customer concentration and owner dependence.

3. A multiple of EBITDA

Normalize for a market-rate owner or manager salary, then apply an EBITDA multiple. This is how a more experienced buyer or lender will see it, and it often brings an optimistic SDE-based price back to earth.

4. Discounted cash flow (DCF)

Project free cash flow after taxes, capital spending and working capital, and discount it at a rate that reflects small-company risk. I use a DCF mainly to ask: what would I have to believe about growth to justify the asking price?

A method far from the others usually signals an unresolved earnings question.

Step 4: Run the debt test before you fall for the price

What SBA lenders look for now

SOP 50 10 8.1 applies to applications issued an SBA loan number on or after October 1, 2026, according to SBA's information notice. Its Appendix 15 covers changes of ownership. For an initial acquisition:

• Debt service coverage must be at least 1.25 to 1, on the last fiscal year-end or an average of the last two. Historical coverage is EBITDA divided by combined debt service after the transaction.
• A business valuation must support the purchase price. If you pay more, the difference has to come from equity.
• The equity injection is 10%, and the SOP says it cannot be reduced or eliminated.
• Total debt, including seller debt not on full standby, is capped at the valuation amount and must be supported by coverage.

Lenders add their own credit policies, so confirm the requirements early.

Seller notes: the lesson from my own acquisition

A seller willing to carry part of the price is often a healthy sign. But a note is still debt, paid from the same cash flow as your bank loan and your salary.

Under the current SOP, a seller note counts toward your equity injection only if it's subordinated to the lender and on full standby, with no principal or interest payments for the term of the 7(a) loan. Seller debt and the other "limited" sources together can cover no more than half of the injection. Standby applies to the part of a note counted as equity. A seller note outside the injection can be paid alongside the SBA loan, as it could under earlier versions of the SOP, and those payments belong in your coverage math. The standby rules have changed more than once, and I walk through that history in SBA loans and seller notes.

In my deal, the seller note wasn't on full standby, so I paid it and the SBA loan at the same time. The terms looked fine at signing, but that concurrent debt service is what strained cash flow, on top of normal seasonality and the costs of a transition year. Every lender and structure is different. Still, I now ask every buyer I work with to model both payments month by month, through a weak quarter, before agreeing to a note.

A simple stress test

Rerun base-case EBITDA at 10% and 20% lower, against every payment you'll owe: the SBA loan, the seller note, equipment financing and a realistic salary for yourself. If coverage only works in the base case, the price or the structure deserves another look.

The buyer's valuation worksheet

Use this checklist before you make an offer or sign an LOI. If you want it built out in Excel, the ETA Valuation Toolkit values a company four ways, models SBA 7(a) financing and tests debt coverage.

Earnings quality

• Three years of tax returns and financials, plus year to date versus the same period last year
• Tax returns tie to the broker's P&L, and I can explain any gaps
• I know whether the asking price is based on SDE or EBITDA
• Every add-back has a document and a one-sentence explanation

Value range

• An SDE multiple range, with its source written down
• Comparable sales in the same industry and size range
• An EBITDA multiple after a market-rate salary
• A DCF showing what growth the asking price assumes
• A written low, middle and high value, with reasons

Debt and structure

• A sources and uses table: price, closing costs, working capital, equity, SBA loan, seller note
• Coverage on historical EBITDA at base case, 10% lower and 20% lower
• Seller note payments modeled month by month, including any standby period
• First-year working capital, including seasonality, and any deferred capital spending

Risks that move the multiple

• Customer concentration and owner dependence
• Key employees and whether they're likely to stay
• Lease terms, assignment and renewal

Questions for my advisors

• Lender: which coverage and valuation requirements apply to this deal?
• CPA: which add-backs hold up, and do I need a quality of earnings review?
• Attorney: asset or stock purchase, and what do the note and any standby agreement say?

Related guide: Buying a business with an SBA loan and a seller note

Disclaimer. Education and general business analysis only. This is not investment, legal, tax, accounting or valuation advice, and nothing here is a recommendation to buy or sell any business or security. Consult your own attorney, CPA and lender before signing anything.

About the author. Michael Keck has spent 17 years in sell-side M&A as a partner at Five Talents Financial Group since 2009. He bought and operates a retail business of his own. He is an Assistant Professor of Finance at Asbury University, holds an MBA from Duke and is a Ph.D. candidate at ESCP Business School. His working paper on entrepreneurship through acquisition is on SSRN.