Menu


THOUGHT FOR THE DAY

Why an Earn-Out?

Why an Earn-Out?

Jul 11 2017

There are a number of ways that the sale of a business can be structured.100% all cash deals are rare.In most cases, deals are created where a combination of cash, financing, stock, and/or earn-outs are used.The key to any structure is ensuring that it protects your financial legacy and is set up so that you are able to close an optimal deal with a premium buyer.

 

An Earn-out is a business purchase arrangement in which the seller finances the business and the seller's payment is based on the earnings of the business over a period of years.

Earn-out Agreements have become increasingly common in recent years and provide benefits to both the buyer and the seller.

 

Shorten the negotiation time

An earn-out can speed up the process of selling your business since each party is essentially "agreeing to disagree" which will eliminate months of haggling over price. This can lead to a better relationship with your acquirer while potentially reducing some of the fees related to an M&A transaction.

From a buyer's point of view, the financing is spread out over a period of years, which makes it easier to pay as much if earnings are not high.

From a seller's point of view, the ability to spread out payments through several tax years helps minimize the tax impact of the sale.

Get full value for your business
An earn-out allows you to receive a higher price for your business post-acquisition because you don't rush to sell in a single payout. Instead earn-outs act as a form of dividend payment and if the business performs stronger than the buyer anticipated, it is likely that the sum of the earn-out would exceed the amount you would have received as a single payout. This is especially true if you are selling a strong business in a down market as the earn-out could get you closer to the potential value of what your business might be in a strong market.


The Seller also has an advantage in this type of arrangement, because the buyer has an incentive to do well in order to pay off the seller financing as soon as possible.

 

Quite often, an earn-out of 2 - 3 years time will generate MORE for you than simply selling the company and walking away from it.The one common trait that all buyers have is an aversion to risk.An earn-out is a great way to bridge the gap between what you believe the company can do going forward and the concern a buyer might have about it not coming to fruition without your involvement.

Before committing to an earn-out, be sure it is the payment structure you really want. If the gap between your price and the buyer's price is significant, consult with your M&A advisor to make sure you are not overly confident about your price. You will also want to make sure to create a graded earn-out structure so your payment is relative to actual performance.

Total: 0 Comment(s)