An earnout bridges a disagreement about the future by deferring it. Whether that is wisdom or postponement depends almost entirely on how precisely it is drafted.
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Contingent consideration exists because buyers and sellers frequently disagree about what a business will do next, and an earnout converts that disagreement into a formula rather than a stalemate. Used well, it is genuinely valuable: it lets a buyer decline to pay today for growth that has not happened, and lets a seller capture value for growth they believe in. Used carelessly, it is the most reliable source of post-closing litigation in private-company transactions, because the buyer now controls the business whose performance determines what the seller is owed, and every operating decision after closing becomes a decision about someone else's money. The disputes are almost never about whether the target was met. They are about how it was measured, and what the buyer did that affected it.
Different instruments solving different problems. They are often confused, and they allocate risk in quite different ways.
Additional consideration contingent on the business hitting defined performance targets after closing. Bridges a genuine disagreement about the future.
Deferred consideration payable regardless of performance. Financing rather than risk-sharing, and a very different instrument.
Part of the price held back for a period to satisfy indemnity claims. Protects against what was misrepresented, not against underperformance.
The seller retains a stake, sharing in the whole outcome rather than in a metric. Aligns more broadly than an earnout and disputes far less.
A settlement against an agreed target, not contingent consideration, though it also moves money after closing and is frequently confused with it.
Payments for the seller's continued involvement. Distinct from purchase price, with distinct tax treatment worth taking advice on.
How earnouts are made to work.
An earnout period is a year or two in which the seller is watching your operating decisions with a financial interest in them.
An earnout measured on the acquired business needs that business kept separately measurable, which is precisely what integration destroys. Buyers routinely sign earnouts that quietly prohibit the integration the acquisition was for.
Because the party who controls the outcome is not the party who is paid for it, and because the drafting usually underestimates how many decisions affect the metric. After closing the buyer allocates overhead, sets pricing, decides on investment, redirects salespeople, and integrates systems, each of which can move measured performance without anyone acting in bad faith. If the agreement does not specify the accounting basis, what the buyer may and may not do, and how disagreements are resolved, the parties end up arguing about intentions rather than terms.
Something with as few discretionary inputs as possible. Revenue and gross profit are the usual answers, because they are hard to manipulate and straightforward to verify. EBITDA is common and problematic, since it depends on cost allocations, overhead charges and investment decisions that the buyer controls entirely. Where an EBITDA measure is unavoidable, define the accounting basis precisely in the agreement, including which costs may be allocated to the business and on what basis, rather than leaving it to be worked out later.
One to two years in most private-company transactions. Beyond that the metric increasingly reflects your management of the business rather than the value of what you bought, which is both unfair to measure the seller on and a source of resentment on both sides. Longer earnouts also collide with integration: keeping the acquired business separately measurable for three years means deferring most of the operational changes the acquisition was intended to enable.
They solve different problems, so the comparison only makes sense once you know which problem you have. A seller note is financing, deferred but not contingent, and is far simpler to administer and almost never disputed. An earnout is risk-sharing, appropriate where you and the seller genuinely disagree about the future and neither is willing to move on price. Where the disagreement is really about financing rather than about forecasts, a note is usually the cleaner instrument and preserves the relationship better.
Describe what is being proposed. The Concierge will work through the mechanics and where the disputes usually come from.