Earn-outs in M&A – when is it worth agreeing to one, and how should it be structured?
An earn-out usually shows up when seller and buyer agree on the quality of the business but disagree about its future.
A buyer doesn’t want to pay today for growth that hasn’t happened yet. A seller doesn’t want to hand over the company at a price that ignores the potential visible in the pipeline, new contracts, or expansion plans.
An earn-out mechanism splits the price into a certain part and a future part, contingent on hitting specific results after closing.
An earn-out can close a valuation gap – but it isn’t “certain deferred price”
This distinction matters. Deferred consideration is a payment delayed in time but due on a fixed schedule. An earn-out is conditional: if the result or milestone isn’t hit, part of the price may never be paid.
An earn-out should be valued like a risk, not like cash deferred by a year.
What can an earn-out be based on?
An earn-out doesn’t have to rest solely on revenue or EBITDA. In a well-designed deal, the metric should match what the parties are actually trying to verify after closing: the result level, client retention, operational capability, completion of a specific project, or a defined milestone.
Financial metrics
Revenue, EBITDA, EBIT, gross margin, cash flow, and – in subscription models – ARR or MRR are the most common. Revenue is simpler to measure and less exposed to the buyer’s cost decisions, but can reward unprofitable growth. EBITDA better reflects the economic result but depends on more decisions around headcount, group costs, marketing, integration and accounting policy. Grant Thornton notes that Adjusted EBITDA earn-outs are especially prone to disputes precisely because of how many adjustments are possible.
Commercial metrics
An earn-out can depend on retaining specific clients, signing new contracts, renewing a key agreement, hitting a backlog value, or sales of a particular product. These KPIs can beat EBITDA when the main source of valuation disagreement is the sales pipeline or client-retention risk.
Operational metrics
In a manufacturing company, an earn-out might tie to reaching or maintaining a given production capacity, launching a new line, hitting agreed yield or quality levels, on-time delivery, or a specific production volume. In a services business, it could be team utilisation, active client count, SLAs, retention, or complaint levels.
Development and technology milestones
In tech, industrial, medtech or life sciences companies, part of the price can hinge on finishing a new product, obtaining a certification or regulatory approval, launching a product commercially, completing a technology migration, or reaching a specific R&D stage. This mechanism often fits better than EBITDA when the business’s value depends mainly on delivering a specific development project.
Blended metrics
Parties can also combine several criteria – part of the earn-out tied to revenue, part to launching a new line or retaining named clients. This limits the risk that a single KPI misses the real post-deal success of the business.
A good KPI should be measurable, unambiguous, resistant to manipulation as far as possible, independently verifiable, and reasonably dependent on the actions of the party being judged. The more a KPI depends on the buyer’s post-closing decisions, the more detail the SPA should include on business-conduct rules and calculation method.
The key elements of a well-structured earn-out
A precise KPI
“EBITDA per the company’s accounting policy” isn’t enough. Define EBITDA specifically for the earn-out, list allowed and disallowed adjustments, and give transaction-specific rules priority over general accounting policy.
The measurement period
A short period limits the seller’s operational risk but can be exposed to seasonality. A long period better measures durability but increases exposure to the new owner’s decisions.
Thresholds, caps and calculation method
Decide whether the earn-out is linear, tiered, or a cliff. The gap between 99% and 100% of target shouldn’t accidentally decide the entire payment unless that’s a deliberate choice.
Business-conduct rules
The seller should know whether the buyer can change prices, move clients, centralise costs, discontinue a product line, or merge the company with another group entity. Without this, a KPI can lose all meaning.
Information and verification
The seller should get data allowing an independent check of the calculation. SRS Acquiom names lack of information as one of the practical factors that escalates disputes.
Dispute procedure
Set deadlines for raising objections, the scope of documents, negotiation process, and the option to have an independent expert resolve accounting disputes – all up front.
When does an earn-out make sense?
When to be cautious
An earn-out can be a very useful tool. It works worst when the parties treat it as a one-line add-on to the price rather than a separate economic mechanism that needs its own definitions, operating rules, and settlement procedure.
How to think about an earn-out when it shows up in an offer
The first question isn’t “how much,” but “how much of that is realistically achievable.” Model three scenarios – conservative, base, and optimistic – and see what price each implies. If the conservative scenario of an earn-out offer is worth less than a lower, all-cash offer, it isn’t actually the higher offer.
The second question is about influence. If you won’t stay with the company, or lose control over costs, pricing and hiring, an EBITDA-based earn-out is a bet on someone else’s decisions. In that case it’s usually better to negotiate a higher cash price than a bigger but less certain earn-out.
This material is for informational purposes only and does not constitute legal or investment advice.
Sources used: SRS Acquiom (2025 update: earnout achievement; 2026 M&A Deal Terms Study), Grant Thornton (Use upfront diligence to head off M&A disputes), Kochański & Partners, Clifford Chance (What’s Market: Earn-outs, 2026).
