DSCR: Debt Service Coverage Ratio
DSCR is your cash flow divided by your annual debt payments. It answers one question a lender cares about more than almost any other: can this business pay its own loans and still have something left over?
The formula
DSCR = SDE ÷ Annual Debt Service
A DSCR of 1.5x means the business earns $1.50 for every $1.00 of debt payments. A DSCR of 0.9x means it earns $0.90, so it can't cover its own loans. The numerator is usually SDE (minus a market salary for you, if you're replacing the owner). The denominator is every loan payment for the year.
Why it matters to a buyer
The SBA wants a DSCR of at least 1.25x. Below that, your 7(a) loan doesn't get approved, full stop. So DSCR isn't just a health check, it's a gate. It's also the fastest way to sanity-test an asking price: if a deal can't clear 1.25x after you pay yourself, the price is too high or the earnings are overstated (or both).
Worked example
A $1.5M deal with $450,000 SDE, financed with a 10% down payment:
- SBA loan of $1.2M at 9.75% over 10 years: about $188,300/year in payments
- Seller note of $150K at 6% over 5 years: about $34,800/year
- Total annual debt service: about $223,100
DSCR = $450,000 ÷ $223,100 = 2.02x. That clears the SBA floor comfortably.
The mistake I see most: buyers run DSCR on the SBA payment alone and forget the seller note in the denominator. That makes the number look better than it is, right up until the lender runs the real math.