What is an earn-out in simple terms?

Part of the purchase price that is only paid if the business hits agreed performance targets after completion, usually measured on revenue or EBITDA over one to three years. It is how a buyer and seller can agree a price despite disagreeing about how the business will perform.

How is an earn-out different from deferred consideration?

Deferred consideration is a fixed amount paid on a fixed later date, unrelated to how the business performs. An earn-out is contingent — it can pay more, less, or nothing at all, depending on whether agreed targets are met.

What metric is usually used for an earn-out?

Revenue or EBITDA are the most common. EBITDA is harder to manipulate through pricing decisions but more open to argument over cost allocation; revenue is simpler to measure but ignores whether the business stayed profitable while hitting it. The agreement should define the metric precisely, including how shared costs are treated.

Why do earn-out disputes happen?

Usually because the buyer, who now controls the business, makes decisions — on spend, on reporting structure, on sales allocation — that affect the metric the seller is paid on, and the agreement's operating covenants were not specific enough to prevent or resolve the disagreement.

How should a buyer price a deal with an earn-out?

On an expected attainment somewhere between the threshold and the cap, based on their own view of the business's likely trajectory — not on the assumption the earn-out pays in full, which overstates the price actually being committed to, and not on zero, which ignores the seller's genuine growth case.

Does TrueValue model earn-outs?

Yes. The deal economics engine takes the earn-out's metric, threshold, cap, measurement period and an attainment assumption, and runs the funding, covenants and returns on the resulting expected price, while also showing the headline and floor figures — and the same structure carries into the IC memo and the post-completion tracking of the obligation.

Deal process

What Is an Earn-Out in a Business Acquisition?

An earn-out ties part of the price to how the business performs after completion. How it is structured, why buyers and sellers use one, and what goes wrong.

By TrueValue12 September 20269 min read

Key takeaways

An earn-out is deferred, contingent consideration: part of the purchase price paid only if the business hits agreed performance targets after completion, usually measured on revenue or profit over one to three years.
It exists to bridge a gap between what a buyer will pay for proven performance and what a seller believes the business is worth on its future trajectory — and it can also keep a founder motivated and available through the handover.
The structure has four fixed parts: the metric, the threshold it starts paying at, the cap it cannot exceed, and the measurement period — plus an attainment assumption, since the price a buyer models is rarely the cap or zero.
Earn-outs shift risk onto the seller and create a relationship that runs past completion, which is why they are the most disputed element of many acquisition agreements — usually over who controls the business during the earn-out period.
Deferred consideration and vendor notes are related but different: an earn-out is contingent on performance, the other two are not, and mixing up the three in a term sheet causes real renegotiation later.

What an earn-out is

An earn-out is part of the purchase price that is not paid at completion but later, and only if the business performs to an agreed level in the meantime. A buyer might pay £3m in cash on day one, with a further £1m payable eighteen months later if revenue over that period exceeds a stated threshold, tapering to nothing if it falls short. It is deferred and it is contingent — both matter, because deferred consideration that is not contingent on anything is a different structure entirely (see below).

Why buyers and sellers use one

The usual reason is a valuation gap. A seller believes recent growth justifies a higher price; a buyer is only willing to pay for performance that is proven, not promised. An earn-out lets both be right: the buyer pays a lower price for certain, and pays more only if the growth the seller is claiming actually happens. It also serves a second purpose that has nothing to do with price: keeping a founder financially motivated and operationally available through the handover, on the theory that a seller with money riding on next year's numbers works harder to make them happen than one who has already been paid in full.

Sellers accept them for the same reason buyers offer them — usually because the alternative is a lower price with no upside, or because they genuinely believe in the business's trajectory and want to be paid for it rather than have a buyer capture it for free. Sellers who do not believe the growth will continue, or who want a clean exit with no further stake in the business's fortunes, generally push back hard against one.

How an earn-out is structured

Four things fix the shape of any earn-out, and an agreement that leaves any one of them vague is an agreement that will be argued about later.

The four fixed parts of an earn-out
Element	What it decides	Common choice
Metric	What is measured — revenue, gross profit or EBITDA	EBITDA is harder to manipulate through pricing but easier to influence through cost allocation; revenue is simpler but ignores profitability
Threshold	The level the metric has to clear before anything is paid	Often set at or near the business's recent trailing performance
Cap	The most the earn-out can ever pay, however well the business performs	A fixed amount or a fixed share of the excess over the threshold
Measurement period	How long performance is tracked, and when payment is made	One to three years is typical; longer periods create more disputes, not fewer

A fifth element does not appear in the agreement but belongs in anyone's modelling of the deal: the attainment assumption — what performance the buyer actually expects, somewhere between the threshold and the cap. The price a rational buyer models is neither the cap (the earn-out paying in full) nor the threshold (paying nothing), but an expected figure based on their own view of the business's likely trajectory. A buyer who prices a deal assuming the earn-out pays out in full has effectively paid the maximum price and taken on none of the risk the earn-out was supposed to share.

A worked example

Illustrative scenario

A buyer agrees a headline price of £4m for a marketing agency: £3m cash at completion, plus an earn-out capped at £1m if EBITDA over the following two years exceeds a cumulative £900,000, tapering to zero below £700,000, with straight-line payment in between. The buyer's own model assumes 70% attainment — not because the seller's forecast is doubted outright, but because two new accounts the forecast relies on have not yet signed contracts. That gives an expected price of £3.7m for modelling purposes, a maximum price of £4m if everything the seller projects comes true, and a genuine floor of £3m if the earn-out pays nothing at all. All three figures matter to the buyer: the expected price for what they are actually planning to pay, the maximum for what the deal could cost if wrong, and the floor for what happens if the business underperforms badly.

Earn-out vs deferred consideration vs a vendor note

These three get confused in early conversations because all three mean "not all the money on day one" — but only one of them is contingent.

What actually differs
Structure	Contingent on performance?	What it is really for
Earn-out	Yes — pays more or less depending on results	Bridging a valuation disagreement; sharing future risk between buyer and seller
Deferred consideration	No — a fixed amount, paid on a fixed later date	Spreading the buyer's cash outlay over time, unrelated to performance
Vendor (seller) note	No, but often subordinated to senior debt	The seller effectively lending part of the price back to the buyer, usually to help the deal get funded

A term sheet that calls a fixed, dated instalment an "earn-out" — with no metric and no threshold attached — is really describing deferred consideration, and calling it an earn-out invites a dispute later about whether anything was ever supposed to be measured. LOI vs IOI covers where the consideration structure is usually first signalled, well before the sale agreement itself is drafted, and getting the label right at that stage avoids relitigating it once lawyers are drafting.

Why earn-outs are the most disputed part of many deals

The core tension is that the seller's payment now depends on decisions the buyer makes about a business the buyer controls. A buyer who cuts marketing spend to protect this year's margin, folds the target into a larger cost centre so its standalone numbers blur, or redirects sales leads elsewhere in the group can — deliberately or not — suppress the metric the earn-out is measured on. Well-drafted agreements try to prevent this with operating covenants (the buyer must run the business in the ordinary course, keep it as a separate reporting unit, not divert customers or reallocate central costs onto it), but covenants have to be specific to be enforceable, and a generic "operate in good faith" clause resolves very little once a dispute actually starts.

The seller side of the risk is straightforward: an earn-out that does not pay is worth exactly its floor value, whatever the headline price implied. A seller relying on the maximum figure to plan their own finances is relying on a number that was never guaranteed.

Common mistakes

Modelling the deal at the cap, not the expected attainment. This overstates what the buyer is actually likely to pay and understates the risk actually being shared.
Leaving the metric's definition loose. "EBITDA" needs its own definition inside the agreement — which costs are included, how shared group costs are allocated, whether one-off items are excluded — or the two sides will calculate different numbers when the time comes to pay.
No operating covenant, or one too vague to enforce. Without a specific commitment on how the business will be run during the earn-out period, a seller has no real protection against decisions that suppress the metric.
Treating the earn-out period as still "the seller's business". Once completion happens, the buyer owns and controls it. An earn-out shares financial outcomes; it does not share control, unless the agreement specifically grants the seller some.
Ignoring how the earn-out interacts with funding. A lender assessing serviceability needs to know whether an earn-out payment falls due in a year debt is already tight — an earn-out is a real cash obligation when it falls due, not a footnote.

How TrueValue models earn-outs

The deal economics engine treats an earn-out as a named line in the consideration structure — metric, threshold, cap, measurement years and an attainment assumption — and runs the deal on the expected price that assumption implies, while also exposing the headline price (attainment in full) and the floor. That means the funding, covenant and returns figures a buyer sees reflect what they actually expect to pay, not the cap or a simplified stand-in, and the same structure feeds the IC memo so a committee sees one consistent set of figures rather than a headline price in the summary and a different number in the model. Post-completion, the earn-out becomes a tracked obligation on the deal with its own forecast against the metric it was tied to, so "on track", "at risk" or "will not pay" is read from the numbers as they come in rather than argued about from memory eighteen months later.

Frequently asked questions

What is an earn-out in simple terms?: Part of the purchase price that is only paid if the business hits agreed performance targets after completion, usually measured on revenue or EBITDA over one to three years. It is how a buyer and seller can agree a price despite disagreeing about how the business will perform.
How is an earn-out different from deferred consideration?: Deferred consideration is a fixed amount paid on a fixed later date, unrelated to how the business performs. An earn-out is contingent — it can pay more, less, or nothing at all, depending on whether agreed targets are met.
What metric is usually used for an earn-out?: Revenue or EBITDA are the most common. EBITDA is harder to manipulate through pricing decisions but more open to argument over cost allocation; revenue is simpler to measure but ignores whether the business stayed profitable while hitting it. The agreement should define the metric precisely, including how shared costs are treated.
Why do earn-out disputes happen?: Usually because the buyer, who now controls the business, makes decisions — on spend, on reporting structure, on sales allocation — that affect the metric the seller is paid on, and the agreement's operating covenants were not specific enough to prevent or resolve the disagreement.
How should a buyer price a deal with an earn-out?: On an expected attainment somewhere between the threshold and the cap, based on their own view of the business's likely trajectory — not on the assumption the earn-out pays in full, which overstates the price actually being committed to, and not on zero, which ignores the seller's genuine growth case.
Does TrueValue model earn-outs?: Yes. The deal economics engine takes the earn-out's metric, threshold, cap, measurement period and an attainment assumption, and runs the funding, covenants and returns on the resulting expected price, while also showing the headline and floor figures — and the same structure carries into the IC memo and the post-completion tracking of the obligation.

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