An earnout defers part of the purchase price and makes it contingent on the target’s performance after closing. It resolves a disagreement about value by postponing it, and it is one of the most reliable sources of post-closing disputes.
The structural problem. The seller’s payment depends on results the buyer now controls. Every decision the buyer makes — integrating the business, changing sales incentives, allocating overhead, deferring revenue — can reduce the earnout, and each is defensible on its own terms.
The metric matters enormously. Revenue is simplest and least manipulable. Earnings-based metrics invite disputes about cost allocation, corporate overhead charged down, and accounting policy changes. Whatever is chosen should be defined with the accounting principles specified and examples worked through in the agreement.
Operating covenants. Sellers should seek express commitments about how the business will be run during the period: maintaining the sales force, not moving customers to affiliates, funding at agreed levels. Buyers resist these, because they constrain integration. The gap between the two positions is where the litigation later happens.
The implied covenant. Where the agreement is silent, sellers often argue the implied covenant of good faith prevents the buyer from acting to defeat the earnout. Courts are receptive in principle and cautious in application, and the outcome depends heavily on the express terms.
Dispute mechanics. Specify the statement, the review period, the objection process and an independent accountant to resolve disagreements — the alternative is litigation over a calculation.