I sold my e-commerce business last year and part of the deal is a three-year earnout tied to net profit. I stayed on as a consultant, but I no longer have access to the accounting system. The buyer sends me a quarterly P&L, and I'm realizing I have no way to verify the numbers. What metrics should I be tracking independently during an earnout to make sure the profit figure is legit? I don't want to accuse anyone of anything, but I also don't want to get hosed.
Earnouts
How to track profit metrics during an earnout period
First thing I’d do is read the earnout clause again. Most of them specify exactly which accounting standard applies and what expenses can be deducted. If it says GAAP, then you have a baseline. If it’s vague, that’s your real problem.
I went through this two years ago. The biggest issue was that the buyer kept allocating a bunch of corporate overhead to my old division. Marketing, IT, even the CEO’s travel. All of it hit the P&L and tanked my earonut. I’d ask for a detailed breakdown of every allocated cost, not just a summary.
Are you still getting monthly bank statements? If so, start there. You can reconstruct a lot from deposits and withdrawals. It’s tedious but it’s better than trusting a PDF.
Honestly, if you don’t have audit rights in the contract, you’re kind of stuck. What does the purchase agreement say about inspection of books?
Also watch for revenue recognition games. The buyer might delay invoicing or accelerate expenses right before the measurement date. It’s not always malicious, but it happens.
I had a client who tracked gross margin by product line every month. That caught a shift where the buyer was pushing low-margin products to show revenue growth while profit actually fell. If you can get product-level data, do it.
Did the byer give you any read-only access to the ERP? Even a dashboard with sales and COGS would help. Sometimes they’ll agree if you ask nicely and frame it as wanting to help grow the business.
Read-only ERP access is rare. They know exactly why you’re asking.
what about customer counts and average order value? Those are harder to fudge in the short term. If AOV drops while total revenue stays flat, that’s a red flag.
This might sound obvious but document everything. Every question you ask, every response you get. If this ends up in mediation or arbitration, a paper trail matters more than a gut feeling
One more thing: check if there’s a provision for a netral accountant to resolve disputes. That’s often cheaper than lawyers and faster than arbitration.
How big is the earnout relative to the total sale price? If it’s a small piece, you might spend more on monitoring than it’s worth. If it’s most of your paykut, hire an accountant now.
Also, don’t assume the buyer’s CFO is your enemy. Sometimes they’re just overworked and the allocations are sloppy, not sinister. A polite email asking for clarity can go a long way.
I’d add: track working capital chaynges. A sudden spike in inventory or receivables can depress profit without any real operational change. That’s a common earnout lever.
I do have audit rights, but they’re limited to once per year and I have to give 30 days’ notice. The contract also says “consistent with passt practices,” which feels open to interpretation. I’m going to pull the bank statements and start reconstructing What I can. The product-level gross margin idea is interesting—I’ll ask for that in the next quarterly review.
Once a yearr is better than nothing. Use it strategically. Don’t burn it on a whim—wait until you have a specific concern you can point to.