As we have examined before, earn-outs can be an important deal making tool when a company’s expected growth is potentially greater than its history has shown. However, because of our COVID-19 impacted business world, constructing a safe and workable earn-out right now requires more and more diligence and M&A experience than ever before.
So what does an earn-out do? Essentially it transfers some of the risks of a company’s future earnings away from the buyer and places a portion of the potential risk on the seller. And that is where the real issues exist with any earn-out.
If you are planning to stay with your company, and if you will have control over the items included in the earn-out, this type of deal could earn a substantial reward. However, if you are not retaining control over key areas, you could be negatively impacted. So, as you can see, it is wise to have sound advice while you consider an earn-out scenario.
This is especially true in today’s COVID environment.
Earn-outs have been used for decades (if not centuries) by dealmakers to bridge the gap between a seller’s expectations of future growth and a buyer’s desire to reduce the risk inherent in the projected growth of any privately held company.
Here are a few of the key items you need to carefully consider if you are approached by a buyer with an earn-out (especially if you do not have professional M&A advisors at your side):
Now odds are good that unless you have bought and sold several businesses, you have not created or monitored an earn-out scenario. This is why we are suggesting so strongly that, especially in the current landscape, you need sound and seasoned M&A guidance and advice before agreeing to any earn-out program.
If you are being retained post-close, and if you have decision-making authority, crafting an earn-out is very plausible. You and the buyer can amiably agree on revenue, earnings and other financial measurements that, if trackable, can be very rewarding to you.
Non-financial goals such as key client retention and key employee preservation post-close are harder to quantify, but they are also workable if you have control over these relationships.
Where earn-outs get tricky is when the seller has left the organization, has no control over key decisions, and often very little ability to verify whether goals are being achieved or not. This is a situation you want to avoid as it leaves you at the mercy of the buyer and their advisors.
However, the reality in our current environment is that growth projections budgeted at the beginning of 2020 are now, seven months later, likely to be outdated. That still does not mean that your company is not as valuable as it was TO THE RIGHT BUYER (and with the appropriate deal terms).
Even during the best of times, every M&A transaction requires a large portion of faith on both the sellers’ and buyers’ part. This is truer now more than ever before. But what is also true is that if you want to achieve an optimal deal in today’s environment, you need sound professional exit planning advice.
And trust me you are not going to get that from your retired Uncle Larry who used to sell real estate….
You need a team to guide you. Generational Equity has the experience and talent to successfully close deals no matter what economic cycle we are in. Here is some proof for you:
Most importantly, as you consider your exit in today’s environment, realize that buyers will more and more aggressively be pursuing earn-outs to balance the risk equation. Although completely acceptable as a deal making option, you have to be sure that your financial goals are met so that the buyer does not take advantage of you and create an earn-out that is heavily loaded with incentives that are out of your control.
Carl Doerksen is the Director of Corporate Development at Generational Equity.
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We thank you Eric and Generational Equity making our dream come true.Larry Moore, Owner, A Company Portable Restrooms
Your wisdom and experience were invaluable to me during this once-in-a-lifetime transaction.Ralph Noblin, President of Noblin & Associates
I wanted to write you a quick letter to express our appreciation and our delight on the outcome of helping us through the process of our recent sale. We are very happy with the end result, and are very happy to be able to move forward with all of our future growth plans.Terry D. Wickman, President, Keytroller
Thank you again for all your guidance and support. Any company will achieve what they intend, if they have you on their team!Rick Nowak, President/CEO, Kurz Electric Solutions, Inc.
I am pleased that I was able to work with Andrew Byrd throughout this experience. From the first meeting we had in Minneapolis I felt that I was in good hands. His knowledge and expertise is second to none. He guided the process consistently throughout. I feel lucky that I was pared with Andrew and could not be happier that I chose Generational Equity to handle this major life event. Thank you Andrew and GenEq for everything!Eric Erlandson, Owner, Action Fastenings, Inc.
Generational Equity’s assistance was invaluable in compiling and marketing our business.Bil MacLeslie, CEO, ipHouse
I couldn’t have asked for a better team than Michael and Deborah. We couldn’t have done it without them.Robert Evans, President and CEO of Mealtracker Dietary Software
I need to say an immense thank you to Don Ho for his stellar work ethic, attention to detail, and tireless effort. Also thank you to the whole crew at GE! Without you, Don could not do such a phenomenal job. We were shooting for closing and funding before the end of 2020, due to the uncertainty of the political landscape and taxes. I am happy to report we closed last week and will be funding tomorrow.Dr. Caty J. Catron PhD, RN, VA-BC – Owner, Vic The Picc, LLC
The professionals at Generational Equity then helped develop a roadmap for enhancing the value of the firm and an evaluation report. This was completed by June 14, 2021. We then developed the Confidential Information Memorandum and put Taylor Studios, Inc. on the market by July.Betty L. Brennan, President, Taylor Studios
Generational Equity’s professional staff helped me every step of the way. Their network and professionals are the only reason I sold my company this quickly. For me this is a once in a lifetime sale and I was unfamiliar with the process. I was able to lean on them with questions and concerns.
I would like to thank you and your firm, Generational Equity, for being our valued advisors in our journey.Bil MacLeslie, CEO, ipHouse
We were happy to see the interest in our company and what we cherished has not just a valuable company but an important company to the communities we served in.Larry Moore, Owner, A Company Portable Restrooms
I decided to attend the conference and hopefully receive some guidance on how to structure an exit plan of my business. Upon arriving at the conference, I was so impressed with the presentation given by Generational Equity that I set a future appointment that week to discuss the possibility of selling my business with their Senior Managing Director David Robinson.JoAnn Ellis, Owner of Fondren 5 Star Kennels
Generational Equity educated and informed us – so that we could be on the upside of a good decision (to sell).Bil MacLeslie, CEO, ipHouse
I quickly recognized that Don was working for Sharpe Mixers above all else, and held our interests above others.Jay Dinnison, Owner of Sharpe Mixers
I wanted to take this opportunity to thank you for all that you have done for us. Not only did you take care of all the aspects of the sale but took extra care to make sure we knew what it looked like every step of the way. I will definitely recommend your company to anyone that is in a position to or looking to exit their business.Shane and Johanna Kline, Owners of Vision Upfitters
T.D., thank you so much! You are a great leader! I love how you are using your gifts and talents to better others. You are clearly a GREAT COACH! This 3 day session undoubtedly changed the future of our business, and very well may have been the sole catalyst to save my company, my health and my marriage! A genuine “thank you” from the bottom of my heart.Bryan D. Horn, Owner, Over Under Clothing
The most important contribution I think Ahmad made was with his personality and work ethic. He is sincere, efficient, and very hard working. He was available to me at all times, whether it was for specific detail of the negotiation or just to talk through the bigger picture. He listened, advised, and recommended, but never forced his idea or opinions. In the time we worked together, he became a valued colleague and also a friend.Salvo Stoch, Founder and CEO of Sleeping Partners
Greetings Mike. Thank you for the captivating and compelling presentation you made at the Phoenix presentation last week. Over many years in business yours was the most informative and well-presented presentation, on any subject, that I have ever attended! Your energy and enthusiasm combined with your concise and captivating support of your positions with easily understood examples and data was compelling.Pete L.
We knew it would be a difficult task to have someone really understand our business and our market, prior to researching a possible buyer, so it was imperative that we found someone of your caliber, with definite proven experience in this area.Rick Nowak, President/CEO, Kurz Electric Solutions, Inc.
The process was much more involved than I expected and your help, experience and advice was a big factor in making the negotiations go as smoothly as possible.Terry D. Wickman, President, Keytroller
Michael worked tirelessly, He followed every lead meticulously and urgently to make sure nothing was missed.Robert Evans, President and CEO of Mealtracker Dietary Software
The help you provided us during each step of this process made us feel very comfortable and confident we were selecting the right approach to transition our Company.Andy Graham, Vice President, Modern Heating & Plumbing
Through the sale process, Generational brought in several interested buyers and we closed in about 6 months. I am so glad I accepted that invitation to the conference and could not be happier with the whole process. The team at Generational coupled with their knowledge and guidance was so valuable that in the end, I know I could never have done this on my own!JoAnn Ellis, Owner of Fondren 5 Star Kennels
Thanks to you, the entire GE team and especially Michael Goss for driving a great valuation, coaching me and driving the process across the finish line. Please let me know if there is anything I can do to support GE going forward. P.S. Given my experience with GE I felt comfortable enough to sign up with Generation Wealth Advisors!Tom Currier, Former President & CEO, Rackmount Solutions
We were represented by Michael Goss with Generational. The due diligence was grueling and exhausting, but Michael propped us up and kept us motivated throughout the process. Debi and I continued to ask each other how we could possibly make it through this process without the assistance of Michael. Michael's professionalism and knowledge is absolutely amazing, and we are so blessed to have had him by our side as we made our future dreams come true.Bob and Debi Lee, Owners of BL Technology, Inc and BL Tl Services, LLC
We are very happy with the end result, and are very happy to be able to move forward with all of our future growth plans.Rick Nowak, President/CEO, Kurz Electric Solutions, Inc.
We had the pleasure of working with Mr. Ahmad Behjati Managing Director, M&A, for Generational Equity during our acquisition of Papa's Dodge in late 2021. Generational Equity and Mr. Behjati represented and marketed Papa’s Dodge. As our primary contact, Mr. Behjati was professional in every facet of this acquisition process, conveying valuable advice most times and assisting us in every step of the process.Rick Greene of Dobbs Equity Partners LLC
I must say that I have never worked with a more driven, competent and focused individual as Don Ho.Jay Dinnison, Owner of Sharpe Mixers
After attending a conference with GE, I decided that the value they bring would be worth the expense and as soon as I started working with them, I realized that was the right decision. When we started to get LOIs, Fred Zweifel took the lead on the communication and supported negotiations throughout the process, which got tricky as we moved forward. I learned that it can be common for companies to make a great offer then work to erode that price with their discoveries, but Fred and the GE team kept that from happening.Caroline Connelly, CEO, OptoTest
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