1. Seller's discretionary earnings
Seller's discretionary earnings (SDE) is a calculation typically used for small to medium-sized businesses. The problem with evaluating businesses based purely on profit is that the new owner may run the business differently. Everything from how much the owner is paid to discretionary spending likely changed under new ownership. By adding these values back into the profit calculation, the new owner gets a better idea of what they will be working with.
As a simple example of SDE, imagine a company that makes $800,000 in profit. This is after the owner pays themselves a salary of $200,000. A hypothetical new owner that wants to take a different salary needs to know that they have $1 million in profit to work with. Adding back in discretionary and owner-specific expenses gives new owners a more complete picture of what they are buying.
Similar to SDE is earnings before interest, taxes, depreciation, and amortization (EBITDA). Under this SaaS valuation method, the owner's salary is kept in the equation, but interest, taxes, depreciation, and amortization are all added back into (or subtracted from) the business income. This happens for much the same reason SDE adds expenses back in. The goal is to normalize the business's income such that the way it's financed and the tax choices it makes aren't a part of the equation. Again, this gives potential investors a more complete picture of what the business looks like financially.
3. Revenue multiples
We've already explained how revenue multiples work. By taking the valuation of a company where that data is known, and figuring out how its revenue relates to that value, investors can get a good estimate of what a company with unknown value is worth using only its revenue data.
There are ways of making this type of estimation more accurate. For example, during the pandemic, many SaaS companies have benefited greatly, whereas some have grown much more slowly. By breaking the larger category of SaaS into smaller categories and calculating the revenue multiples for the category that fits the target business the best, a more accurate SaaS assessment will be made of that company's value.
4. Net present value
Net present value (NPV) is a way to account for the passage of time on the value of money. Ten dollars now doesn't go nearly as far as it did 50 years ago. While investors probably aren't planning a half a century into the future, even a few years has an effect on the value of money. Net present value is a way of accounting for this so-called time value of money. It looks at all the money a project or business is expected to make over a given period of time, adjusts that into today's dollars, and subtracts the investment from it. A positive number indicates a good investment. The rate used to make the adjustment is called the discount rate. This older blog post gives you a detailed look at how to calculate a good discount rate.