Mechanics of an earnout? Alternatives to earnouts?

by a searcher

Jan 06,2023

I’m interested in acquiring a business that hasn’t proven to be profitable except in the last twelve months. They seem to have a promising backlog. However, I won’t be able to get conventional lenders to pony up the cash. I can leverage the real estate though to offer cash for the acquisition (it’ll be a bridge loan with no principal payments, just interest). 

How can I structure the earnout, and what are the mechanics of it? For instance, if I offer an earnout, do I have to put the entire amount in escrow? 

Ideally, I’d like to be able to refinance the debt each year they achieve the necessary results because I don’t have any cash to give except for what I can raise from the real estate.


Example Valuation: $10m
Year 1: $3m EBITDA achieved
Year 2: $3.5m EBITDA achieved
Year 3: $3.8m EBITDA achieved

How much should they be paid each year, and where does the money come from?

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searcher

there is no single way to structure. but from your perspective you shouldn't offer to escrow. the point is to pay them if there is profit, and then from the profit. earnouts can be quite complicated. the seller will worry about you increasing capex or expenses to bring down EBITDA (usually there is language to exclude non-recurring items). maybe seller will push for an earnout based on revenue. there will also be concerns about how you're accounting for it, right to inspect books, etc.

02/17/2023 | like reply | 0 likes

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