Should You Fear Earnouts in M&A Deals?

Should You Fear Earnouts in M&A Deals?

Like any good attorney, I'll start by reframing the question before I answer it. The question that is probably a little more appropriate is: "Who's very cautious about using earnouts in an acquisition?" Answer: I am. Perhaps the primary reason for my caution is that, in my experience, a significant number of earnouts creep into deals when buyers and sellers disagree over the value of a business. Since many of these disagreements are based on a different view of the future (the seller claims to see explosive growth and the buyer claims to see conservative growth or even contraction), an earnout serves as a compromise between the optimism of the seller and the pessimism of the buyer. These types of earnouts are usually tied in some way to the revenues (either gross or net) of the business after it has been acquired: if the revenue thresholds are met, the seller will receive some additional compensation. Lets call these "business performance earnouts."
 
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Attorney Tom McLain’s current practice is focused on general corporate transactional work, with an emphasis on contract negotiation and preparation, mergers and acquisitions, and the formation and governance of corporations and limited liability companies. He’s also a frequent contributor to social media forums. You can learn more about him on the website of Chorey, Taylor, & Feil.