Earn-Out
Investment Banking glossary · M&A & LBO Modeling Dynamics
Definition
Contingent purchase-price mechanism: a portion of consideration is deferred and paid only if the target hits specified post-closing milestones (typically EBITDA or revenue targets over 1-3 years). Used to bridge valuation gaps when buyer and seller disagree on the target's future performance. Pros: ties payment to results, reduces buyer's upfront risk. Cons: creates disputes over how ``EBITDA'' is calculated post-close (the definitive agreement must define it precisely), the seller loses operational control (the buyer may underinvest to suppress earn-out EBITDA), and accounting for contingent consideration is complex. Most common in middle-market and private deals; rare in large public-company transactions.
Earn-Out in plain English
Sometimes a buyer and seller can't agree on what a company is worth because they disagree about its future — the seller is optimistic, the buyer is cautious. An earn-out settles the argument by paying part of the price now and the rest LATER, but only if the business actually hits agreed targets (like a certain profit level) over the next few years. It's like buying a food truck where you pay some upfront and promise a bonus only if it really sells as many tacos as the owner swears it will. The catch is that once the buyer is in charge, the two sides can end up fighting over how the numbers are measured and whether the buyer is quietly holding the business back to avoid paying — which is why these are common in smaller private deals but rare in big public ones.
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