How to Value an Acquisition Target: A Search Funder's Framework for Setting Your LOI Range

To value an acquisition target and set your LOI range, take the seller's normalized earnings (SDE for smaller businesses, EBITDA for larger ones), apply the multiple range that comparable middle-market deals are actually closing at, and then widen or tighten that multiple for the target's specific risk. The output should be a range (bear, base, and bull), not a single number, because you still have diligence ahead of you.

That is the whole framework in three sentences. The rest of this article is how to do each step well enough that your Letter of Intent survives due diligence and lender underwriting.

What Is an LOI Valuation Range?

An LOI valuation range is the price band a buyer commits to (subject to diligence) when submitting a Letter of Intent. It is not a precise appraisal: it is a defensible bracket that says "based on what I can see today, this business is worth between X and Y, and here's why." For search funders and ETA operators, getting this range right is the difference between an accepted LOI that closes and one that either gets you outbid or falls apart when the numbers don't hold.

Step 1: Normalize the Earnings First

You cannot value a business on the earnings the seller reports. You value it on the earnings a new owner will actually keep. That means normalizing:

• Add back owner perks, one-time expenses, and above-market owner compensation.
• Subtract the cost of replacing anything the seller did for free (a market-rate manager if the owner ran operations, for example).

Which metric you normalize to depends on size, and it matters. This is the difference between SDE and EBITDA:

• SDE (Seller's Discretionary Earnings) for owner-operated businesses, typically under ~$1M in earnings. It includes one owner's salary.
• EBITDA for larger businesses that already run on a management team. It does not addback owner salary because a manager is a real cost.

Getting this wrong is the most common ETA valuation error: applying an EBITDA multiple to an SDE figure (or vice versa) can misprice a deal by 30% or more.

Step 2: Anchor to Lower-Middle-Market Multiples

Once you have a clean earnings number, anchor the multiple to what comparable businesses are actually closing at, not to public-company multiples or headline SaaS numbers. Multiples rise with size, because larger businesses carry less key-person and customer-concentration risk. As a starting reference for privately held middle-market deals:

These are illustrative ranges. Always verify against current, source-cited data. The primary references professionals rely on are the IBBA & M&A Source Market Pulse report (quarterly, by size and sector), DealStats (formerly Pratt's Stats), and GF Data for the upper end of the lower-middle market. Sector matters enormously on top of size: a recurring-revenue software business and a project-based contractor at the same EBITDA will not command the same multiple. See how EBITDA multiples work by industry for the sector overlay.

Step 3: Adjust the Multiple for Risk

The table gives you a starting bracket. Where you land inside it (or below it) depends on the same risk factors sophisticated buyers scrutinize first:

• Customer concentration: one client above ~20% of revenue pulls the multiple down.
• Owner dependence: if the business can't run without the seller, you're buying a job; discount accordingly.
• Margin quality and trend: durable, above-sector margins push you toward the top of the range.
• Revenue durability: recurring or contracted revenue earns a premium; project or one-time revenue does not.

Each of these effectively raises your required return, which lowers the multiple you can justify.

Step 4: Set a Range, Not a Point

Express the result as three numbers so you preserve negotiating room and account for diligence risk:

• Bear: bottom of the multiple range, assuming diligence uncovers the concentration or owner-dependence risks you suspect.
• Base: your central estimate on normalized earnings and a sector-appropriate multiple.
• Bull: top of the range, only if diligence confirms clean books, a transferable team, and durable revenue.

Your LOI should anchor near the base, with the bear as your walk-away floor.

Step 5: Pressure-Test Against the Financing

For most ETA and search-fund deals, the valuation has to survive a lender, not just a spreadsheet. Under current SBA SOP 50 10 guidance, 7(a) acquisition loans generally require an independent business valuation once the financed goodwill exceeds a set threshold (commonly cited at $250,000). Confirm the current threshold and rules with your lender. Separately, the deal has to service its debt: lenders typically underwrite to a minimum debt-service-coverage ratio (often around 1.15×+). If your base-case price can't clear DSCR at realistic terms, the valuation is too high regardless of what the multiple table says.

Frequently Asked Questions

What multiple should I pay for a small business?

For owner-operated businesses under ~$1M in SDE, most privately held deals close between 2.0× and 3.5× SDE; middle-market businesses valued on EBITDA typically range from 4× to 8×+ depending on size, sector, and risk. Anchor to current IBBA Market Pulse or DealStats data for your specific size and industry rather than a rule of thumb.

Should I value an acquisition target on SDE or EBITDA?

Use SDE for smaller, owner-operated businesses (it addbacks one owner's salary) and EBITDA for larger businesses that already run on a management team. Applying the wrong metric's multiple is one of the most common and expensive ETA valuation mistakes.

Does an SBA loan require a business valuation?

Generally yes for 7(a) acquisition loans once the financed goodwill exceeds the SBA's threshold. The valuation must be independent and performed by a qualified source. Because SBA SOP 50 10 is updated periodically, confirm the current requirements with your specific lender before relying on them.

Key Takeaways

• Normalize earnings first, and match the metric to size: SDE for owner-operated, EBITDA for management-run businesses.
• Anchor the multiple to real middle-market deal data (IBBA Market Pulse, DealStats), then adjust for concentration, owner dependence, and revenue durability.
• Set a bear/base/bull range, anchor your LOI near the base, and keep the bear as your walk-away floor.
• Pressure-test against financing: the price has to clear SBA valuation rules and debt-service coverage, not just your model.

Setting an LOI range is where most first-time search funders either overpay or lose the deal. ValueAlpha runs the same normalized-earnings, multiple-driven, risk-adjusted analysis lenders and sellers' advisors use, so you can walk into an LOI with a defensible number and the reasoning to back it up.