An earnout is the buyer paying part of the price later, conditional on the business hitting agreed targets. The earn out definition is that simple; the difficulty is entirely in the detail, because you are accepting payment based on performance you will influence less than you do today, measured by numbers somebody else will prepare.
What is an earnout in M&A, and why does it appear at all?
What is an earnout in m&a doing there: it bridges a gap in belief. The seller thinks the business will grow, the buyer is not paying for growth that has not happened, and rather than splitting the difference on a fixed price they agree that the seller gets more if the growth arrives. That is a reasonable structure and it is also how disputes start, because both sides have agreed to be paid on a future neither controls alone.
Earnout structures: the measure decides everything
Earnout payments hinge on what is being measured and who calculates it. Revenue is harder to manipulate and rewards the wrong behavior; profit reflects reality and can be reduced by decisions the buyer makes for perfectly good reasons, such as allocating group costs, changing pricing or investing. Whichever earn out structure is chosen, the seller needs the definition written precisely, the right to see the workings, and a mechanism for resolving disagreement that does not require litigation. Earnout structures without those three are an invitation.
What the earn out agreement needs while it runs
An earn out agreement should say what the buyer must and must not do during the period: keep the business separate enough to be measured, not move revenue elsewhere in the group, not starve it of the resources it needs to hit the target. Sellers who stay on often assume their involvement protects them, and it does not, because after closing the decisions are the buyer's. Negotiate the protections into the document, and treat the earnout as money you might not receive when deciding whether the headline price is acceptable.
Questions people ask about earn out
What is an earn out?
Part of the price paid later, conditional on the business hitting agreed targets after the sale. It bridges a gap between what the seller expects and what the buyer will pay for now.
In an earn out structure, should the measure be revenue or profit?
Revenue is harder to manipulate but rewards the wrong behavior; profit reflects reality but can be reduced by the buyer's legitimate decisions. Either way, define it precisely and secure inspection rights.
What protections does a seller need on earnout payments?
Written obligations on the buyer to keep the business measurable and adequately resourced, the right to see the workings, and a dispute mechanism short of litigation.