When business owners think about sale terms, attention usually goes first to valuation. That is understandable. But price is only part of the story. The more important question is often when and under what conditions that value actually gets paid. This is where earnouts enter the conversation.
An earnout is a deal mechanism in which part of the purchase price is paid after closing, contingent on the business hitting agreed performance targets during a defined period. Those targets may be tied to revenue, EBITDA, gross profit, customer retention, or other clearly measurable milestones.
Earnouts typically represent 15% to 30% of total purchase price, and they’re most common when a buyer and seller agree on the business’s potential but disagree on how much of that upside should be paid for today. The buyer limits the risk of overpaying. The seller preserves upside if the business performs as expected.
Why Buyers and Sellers Use Earnouts
At the heart of most earnout discussions is a familiar tension. Sellers focus on the business they have built and the opportunities they believe are ahead. Buyers focus on what they can verify and underwrite with confidence today.
That gap becomes especially common when a company is growing quickly, entering a new market, launching new products, or coming off an unusually strong period the buyer isn’t yet willing to extrapolate forward. In those situations, an earnout can help keep a deal moving.
Done right, earnouts serve two purposes.
First, they bridge valuation gaps. If a seller believes the business deserves more than the buyer will pay upfront, part of that disagreement can be moved into the future and tied to actual results, keeping deals alive that might otherwise stall.
Second, they can align incentives. Where the seller remains involved after closing, the earnout can keep both parties focused on continuity, growth, and execution during the transition period.
Choosing the Right Metric
The performance metric is where most earnout negotiations get complicated.
Sellers often prefer revenue because it is easier to observe and generally less exposed to post-closing judgment calls around expense allocation. Buyers often prefer EBITDA or profit because those measures more directly reflect economic value. Sometimes gross profit is a useful middle ground.
Revenue-based earnouts may make sense for businesses where commercial traction and growth are central to what the buyer is underwriting. EBITDA-based earnouts may fit better where profitability, operating discipline, and cash generation matter most. Whatever the metric, it should be objective, measurable, and defined in detail before signing.
Getting the metric right matters. So does drafting it precisely.
How to Structure an Earnout More Effectively
Earnouts sound simple in principle. In practice, they are one of the most negotiated and frequently disputed parts of a sale process. The reason is straightforward: once the deal closes, control changes hands. The seller may still be exposed to the future performance of the business, but the buyer usually controls budgets, hiring, pricing, integration decisions, accounting policies, and broader strategy.
Disputes do not always arise because either side acted in bad faith. More often, they arise because the earnout was not drafted with enough precision.
Define the Metric Precisely
The most common problem isn’t a bad metric. It’s a vague one. If the agreement refers to EBITDA without specifying the accounting policies, treatment of extraordinary items, or allocation of shared costs, disputes become much more likely. The formula itself, the accounting standard, any exclusions, and how post-closing changes will be treated should all be spelled out.
Keep the Formula Simple
Complexity is where earnouts often start to break down. Research from Grant Thornton points to earnouts as a major source of M&A disputes, with metric design playing a central role. The logic is fairly simple. The further down the income statement the metric goes, the more volatility and judgment it tends to introduce. Revenue is usually easier to track and harder to influence through post-closing decisions. EBITDA may look more precise, but it brings in expense allocation, operational leverage, and a wider range of decisions that the seller no longer controls. Each additional layer adds another point of potential disagreement. Simpler structures do not just reduce the risk of dispute. They also improve the odds that the earnout works the way both sides intended. Where possible, fewer moving parts are better.
Address Control and Operational Influence
Giving the seller economic exposure to decisions they no longer control is a structural problem, not just a negotiating point. Roles, responsibilities, and the degree of buyer discretion should be negotiated explicitly. If the buyer controls everything post-closing, make sure the agreement prohibits them from deliberately managing results in ways that reduce your payout. It happens.
Avoid Premature Integration
Once the acquired business is folded into a broader platform, separating its results becomes difficult or impossible. Consider a straightforward example: a buyer acquires a regional services company with an EBITDA-based earnout, then immediately combines its back office, sales team, and IT infrastructure with three other portfolio companies. Twelve months later, there is no clean way to calculate standalone EBITDA. Overhead is shared. Revenue is commingled. The earnout becomes a negotiation, not a calculation. If standalone measurement is part of the deal, it needs to be defined and protected before closing, not sorted out after the fact.
Keep the Duration Manageable
Longer earnout periods create more room for strategic shifts, market changes, and misunderstandings. Most earnouts are structured over one to three years for that reason. The SRS Acquiom 2024 Deal Terms Study shows a trend toward shorter performance periods, with fewer deals carrying earnout periods longer than four years.
Plan for Disagreement
A strong earnout should not assume that both sides will interpret everything the same way later. Information rights matter: sellers should know how often results will be reported and what access they have to the underlying data. If you can’t audit the calculation, you can’t dispute it. The agreement should also define the dispute process in advance—whether disagreements go to an accounting expert, arbitrator, or court. Getting that wrong means a dispute that takes years and costs more than it’s worth to resolve. Define the process before you need it.
Recent Examples
In 2025, e.l.f. Beauty announced the acquisition of rhode, the skincare brand founded by Hailey Bieber, in a deal valued at up to $1 billion. The structure included $800 million at closing plus a potential $200 million earnout tied to the brand’s growth over a three-year period. For a fast-growing brand just three years old with $212 million in trailing net sales, the earnout allowed the buyer to support a strong headline valuation while tying a portion of the consideration to continued post-closing performance.
Rocket Lab acquired Mynaric, a German laser communications provider, for an initial purchase price of $75 million with the potential for an additional $75 million earnout tied to revenue targets over 2025–2027. The deal, which closed in April 2026, shows how earnouts can bridge a buyer’s caution and a seller’s confidence in a specialized market. Notably, as the sellers invested additional capital into Mynaric before closing, the upfront price increased and the earnout shrank accordingly, demonstrating how earnout structures can flex during the pre-closing period.
Questions Owners Should Ask
Before agreeing to an earnout, owners should ask a few direct questions.
- Is the metric truly objective and clearly defined?
- Who controls the operational decisions that affect the payout?
- How much of the total value is being deferred, and is the upfront consideration still acceptable on its own?
- Will the business remain measurable on a standalone basis after closing?
- How will disputes be resolved if the parties disagree on the calculation?
Conclusion: Earnouts Reward Clarity, Not Optimism
Earnouts close deals that would otherwise fall apart. They can also defer a dispute by a year or two and make it more expensive to resolve. Which outcome you get usually comes down to how precisely the structure was drafted before you signed.
For owners, the question is not whether an earnout sounds fair in the room. It is whether it holds up when the buyer controls the business and the numbers. That’s the conversation worth having before you agree to one.
At Harney Capital, we work closely with business owners to evaluate deal terms holistically, making sure the upfront value and any deferred consideration are structured to hold up after closing, not just look good at signing. When it comes to earnouts, preparation is the difference between a clean payout and a drawn-out dispute.
