When owners start preparing for an exit, the conversation generally starts with the purchase price following a valuation. This makes sense because that is the number you have worked for years to build toward. The follow up conversation can be a bit tougher because it moves away from the price and into the actual deal structure and how much flexibility you can offer a buyer.
Buyers are cautious in any market but also now in the current market. This often creates a gap between what a seller feels their company is worth and what a buyer is willing to pay at the closing table. To bridge that divide, buyers often propose earnouts, which are essentially a promise to pay more later if the business hits certain financial goals.
Recent data from the Alliance of Mergers and Acquisitions Advisors shows that earnouts are becoming a staple in the lower middle market, appearing in about a third of all deals. So while they can be a fair vehicle for negotiation, I always advise my clients that these funds are not a sure thing. It is best to view an earnout as a potential bonus rather than a guaranteed component of your exit.
If you are facing a potential earnout, the details are everything. You want metrics that are objective and difficult for a new owner to manipulate. You also want to keep the timeline as short as possible. The longer the earnout period, the more room there is for market shifts or management changes to derail your progress.