Sold a small manufacturing biz last year. Buyer wanted an earn-out tied to revenue growth over 3 years. I insisted on a base price plus an earn-out tied to gross profit, not revenue. Got paid 70% upfront and the rest based on hitting certain profit milestones. Now I'm wondering if I left money on the table or if I structured it wrong. For those who've done earn-outs: how did you balance getting paid for future growth without getting screwed if the buyer mismanages the business? What metrics did you use? Was there a cap? Any regrets?
Earn-outs
How to structure earn-outs if you want to get paid for future growth
Gross profit is better than revenue, but you still need to define what counts as 'profit.' Did you have clear definitions for COGS, allocated overhead, and owner compensation? Without those, the buyer can massage numbers to avoid paying out.
I sold a services company with an earn-out tied to EBITDA. Biggest mistake: no cap on expenses the buyer could dump into the business. They hired three VPs and suddenly my EBITDA target was unrsachable. Always negotiate a schedule of allowable add-backs.
lol earn-outs are just a way for buyers to pretend they're paying you more than they are. Fight for as much cash upfront as possible.
SockPuppetCEO — I hear you, but in my case the buyer was a PE-backed strategic and they wouldn't budge on at least 30% tied to performance. I did get a floor though: if they fire me or change the business model, I get the full earn-out immediately. That clause saved me.
What was your acceleration clause? I'm in the middle of negotiating one and the buyer's lawyers are trying to water it down to "material breach of contract" only. Feels useless.
Three years is long. I'd never go past 24 months. Too many things can change, and you lose leverage every quarter.
GravyTrainer — push for a "deemed earn-out" trigger if they sell the business again before the earn-out period ends. That's common in PE deals and protects you from getting stuck with a new owner who has no incentive to pay.
Everyone here is so sophisticated. My uncle sold his landscaping business with a handshake earn-out. Buyer stopped paying after year one. He's stiill bitter at Thanksgiving.
MangoChutney — agreed, shorter is better. If I could redo it, I'd push for 2 years max and a bigger upfront.
Also, don't accept earn-out payments based on the buyer's consolidated financials. Insist on a separate P&L for the acquired entity. I've seen too many buyers allocate corporate overhead to the target and wipe out the earn-out.
This thread is making me never want to sell. Just take the highest cash offer and walk.
Asked my lawyer about the deemed earn-out clause. He said it's doable but buyers will want a discount on the multiple. Everything's a trade-off.
One more thing: get a CPA or forensic accountant to review the buyer's calculation before you sign off on each year's payment. Worth the few grand.
BiscuitDad77 — any regrets on the the 70/30 split? I'm considering something similar.
DollarStoreWolf — honestly, the 70% upfront was the right call. The earn-out ended up being about 25% of total consideration after adjustments. I'd do it again, but with tighter definitions and a shorter window.