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purchase price being deferred over that period. Buyers usually value companies based on historical performance while sellers may weight more heavily projections about higher growth prospects. With an earnout the seller's shareholders are paid an additional sum if some predefined performance targets are met. (See
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and other front-loaded business expenses. Some earnouts may be based on entirely non-financial targets such as the development of a product or the execution of a contract. Other performance metrics may include sales (gross or net), gross profit, operating income (EBIT), operating cash flow (EBITDA),
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The terms and conditions of an earnout are largely dependent on which party will actually manage the business following the closing. If the buyer will manage the business, the seller may be concerned with mismanagement by the buyer which causes the company to miss targets. On the other hand, if the
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Earnouts are often employed when the buyer(s) and seller(s) disagree about the expected growth and future performance of the target company. A typical earnout takes place over a three to five-year period after closing of the acquisition and may involve anywhere from ten to fifty percent of the
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in response to future issues. In some transactions, the buyer may have the ability to block the earnout targets from being met. Outside factors may also impact the company's ability to achieve earnout targets. Because of these limitations, sellers often negotiate earnout terms very carefully.
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targets, and the selection of metrics also influences the terms and conditions of the earnout. Sellers tend to prefer revenue as the simplest measurement, but revenue can be boosted through business activities that hurt the
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of the company. On the other hand, while buyers tend to prefer net income as the most accurate reflection of overall economic performance, this number can be manipulated downward through extensive
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seller will manage the business, the buyer may be concerned with the seller either minimizing or understating expenses or overstating revenue so as to manipulate the earnout calculation.
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Earnouts have several fundamental limitations. They generally work best when the business is operated as envisioned at the time of the transaction, and are not conducive to changing the
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investors, who do not necessarily have the expertise to run a target business after closing, as a way of keeping the previous owners involved following the acquisition.
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where the sellers must "earn" part of the purchase price based on the performance of the business following the acquisition.
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environmental costs, cost savings from synergies, reduction of debt or derivatives of any of these.
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The financial targets used in an earnout calculation may include
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274:"Will you elaborate on the use of earnouts in M&A deals?"
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114:"Mergers & Acquisitions Quick Reference Guide"
195:. New Jersey: John Wiley & Sons. p. 74.
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248:"Earnout: Short-Term Fix or Long-Term Problem?"
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140:"Introduction to M&A Earmouts"
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119:. McKenna Long & Aldridge LLP
23:refers to a pricing structure in
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280:. Jasso Lopez PLLC. p. 12
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170:"How to Structure an Earn-out"
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272:Lopez, Erik (July 11, 2015).
138:Lopez, Erik (July 10, 2015).
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216:Field, Anne (19 June 2005).
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218:"How To Survive An Earnout"
38:Earnouts are popular among
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25:mergers and acquisitions
278:The M&A Lawyer Blog
144:The M&A Lawyer Blog
33:contingent value rights
191:Bragg, Steven (2009).
168:LaGorio, Christine.
77:capital expenditures
50:Performance metrics
146:. Jasso Lopez PLLC
252:Stout Risius Ross
202:978-0-470-39894-4
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84:Limitations
73:bottom line
300:Categories
284:August 28,
150:August 28,
97:References
60:net income
257:19 August
232:19 August
176:19 August
123:19 August
21:earn-out
56:revenue
17:Earnout
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64:EBITDA
172:. Inc
117:(PDF)
286:2015
259:2013
234:2013
197:ISBN
178:2013
152:2015
125:2013
68:EBIT
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