Understanding the variables that influence DSCR can help you avoid surprises post-close and structure deals that pass lender scrutiny.

Purchase Price

The higher the purchase price, the more debt you typically need to fund your acquisition and the lower your debt service coverage ratio will be (i.e., more debt relative to the company’s earnings). As you’re negotiating with the seller, explaining the impact of the purchase price multiple on your DSCR and ability to secure debt can be effective in agreeing on a lower price, as the current owners resonate with needing to make enough to pay down debt.

For some industries that are bought and sold at very high multiples, it becomes nearly impossible to finance the acquisition as an individual buyer using an SBA loan.

Adjustments

Buyers often adjust Seller’s Discretionary Earnings (SDE) to remove one-time costs or owner-specific perks, but lenders will scrutinize whether those adjustments are reasonable. Overly optimistic adjustments can artificially inflate free cash flow, making DSCR look more attractive than it truly is.

Remember, lenders often recalculate SDE on their own, discounting aggressive add-backs or normalizing expenses based on industry benchmarks. If you’re unsure whether an adjustment is appropriate, assume a skeptical underwriter is on the other side of the table.

New expenses

Post-acquisition changes like hiring a general manager, increasing marketing, or investing in systems can alter your cost structure significantly. These recurring expenses lower your free cash flow and thus reduce your DSCR.

Many first-time buyers forget to incorporate new overhead into their financial model, which can make paying their debt obligations look easier than it really is. If your post-acquisition strategy includes professionalizing the business, that’s great, but your DSCR needs to reflect that reality.

Don’t model a future cash flow plan with outdated cost assumptions.

Forecasted earnings

Projecting hyper-growth is tempting, but lenders won’t be swayed by overly optimistic cash flow models.

Lenders underwrite deals based on historical performance. Even if you’re confident in new sales channels, customer contracts, or growth initiatives, you should model DSCR based on conservative, base-case assumptions.

Realistically, this means conservatively projecting no earnings growth in the first year and modest earnings growth thereafter. You may be confident that you will grow sales in year one, but while you're upgrading new systems, hiring key talent, and investing in growth, your profit often declines in the first year.

Your deal should be able to pencil a 1.25+ DSCR with current earnings, while any future growth is seen as a bonus.

Tip: Don’t just use your most recent year’s SDE. If your SDE was higher than normal last year as a result of project-based revenue, your ability to repay new debt will be misleading. Instead, take a weighted average of your SDE from the past three years to get a full view of your financial performance over time.

Debt amount

Debt is the denominator of the DSCR equation, and the more of it you use, the harder it will be to pay your debt obligations. Larger loan amounts come with higher annual debt payments, and unless the business produces exceptional free cash flow, your DSCR margin will shrink.

If your capital stack includes only a small portion of equity, your DSCR can end up close to break-even, even if the business has solid fundamentals.

Maintenance CapEx

Maintenance capex is the capital required to keep the business running at its current level — things like purchasing a new vehicle or replacing equipment. Many buyers mistakenly ignore these costs when calculating free cash flow, leading to an inflated DSCR.

Lenders look at deals all day and are always cognizant of maintenance capex potential. They’ll break down your conservative estimate of ongoing capital investment needs, especially for asset-heavy or aging businesses.

If you want to successfully secure debt capital, you need to factor in normalized maintenance capex for the future of your target acquisition.

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