What is an earnout?

Earnouts are a type of purchase agreement where an element of the price is contingent upon the performance of the business after the sale. They are often linked to a post-deal EBITDA target, but can also be driven by revenue or other KPIs, depending on the circumstances.

When a seller and a buyer have different expectations about the future potential of a business, an earnout can allow the seller to benefit from additional compensation if the business performs well, and the buyer might get some protection against underperformance. An earnout might also help to align the buyer and seller on the expected post-deal performance of the business.

Earnouts are seen more frequently in tech, healthcare and other businesses with high growth potential. We have seen relatively fewer earnouts in mid-market M&A in recent years. In a sellers’ market, buyers have had to meet the seller’s price and deal structure expectations. However, economic uncertainty means that earnouts are again on the up, as a way to bridge gaps in perceived value and expectations of future performance. SOURCE BDO UK