How does an earn-out provision work in a business sale?

In an earn-out, part of the price is paid at closing and the rest only if the business meets targets set in the agreement. BDC says some buyers want milestone payments based on company performance if the selling business’s growth plan is not mature enough yet.

The split between closing and later

BDC’s guide to purchase agreements says the parties decide how much of the price is paid at closing and how much is held back in escrow or made subject to conditions. An earn-out is the conditional kind: money that depends on results. BDC’s negotiation guide separately describes holdbacks and funds in trust as deal terms used to mitigate risks discovered in due diligence. Ask how much is paid at closing, because that is the part not at risk.

What the clause has to define

Because the payment depends on figures produced after closing, the wording does the work. A workable clause settles these points:

• The metric: revenue, gross profit or another measure, and exactly what is counted.
• The period: when measuring starts and ends, and whether it is one test or a series.
• The calculation: who prepares it, on what accounting basis, and by when.
• The payment: amounts and timing, and what is paid if the target is only partly met.
• Disputes: who decides a disagreement, and the deadline to object.

Where it sits in the wider deal

BDC’s selling guide lists an earn-out among the ways a seller can remain involved after closing, alongside vendor financing and a phased transfer of ownership. Have the clause reviewed with the rest of the purchase agreement. See what happens if an earn-out target is missed and how an earn-out is taxed.