Earn-outs have become a familiar feature of UK mergers and acquisitions (M&A deals). They allow part of the purchase price to be deferred and tied to the future financial performance of the target company. For buyers, this reduces the risk of overpaying for a business. For sellers, it offers the chance to realise greater value if the company performs as promised. Yet while this structure looks attractive on paper, it is increasingly proving to be a source of conflict.
In recent years, there has been a surge in earn-out disputes. Economic uncertainty, rapid market changes, and differences in management approach between buyers and sellers have all contributed to this trend. What starts as a tool for bridging valuation gaps can end up creating long-term tension.
The common triggers for disputes
Most disputes arise after completion, when expectations diverge. Sellers naturally assume the business will continue to be run in a way that maximises the earn-out. Buyers, however, may make strategic decisions that affect how performance is measured. Common triggers include disagreements over accounting methods, allocation of overheads, or changes in business priorities.
For example, if the buyer merges the acquired business into its wider group, shared costs might reduce the target’s standalone profit. If the earn-out is based on revenue, disputes may emerge about whether certain sales “belong” to the acquired company or to the buyer’s existing operations. These issues illustrate how quickly ambiguity in the drafting can lead to disputes.
Why courts often favour buyers
A less well-known but important insight is that litigation can often favour buyers when deciding earn-out disputes. Judges are obliged to interpret the contracts strictly, so where provisions are vague or silent on a particular issue and buyers have control post completion, the burden of proof falls on the seller, giving the buyer a de facto advantage. The result is that sellers often find themselves at a disadvantage unless the earn-out provisions are drafted with great precision.
This can make it risky for sellers to rely on goodwill or assumed understandings. Without watertight terms, the likelihood of recovering disputed sums can be lowered.
How to draft stronger earn-out terms
The single most effective safeguard is careful drafting. Defining key performance indicators (KPIs) clearly is essential. This means spelling out exactly how revenue, profit, or other financial measures will be calculated, including adjustments for extraordinary items or shared costs. Provisions can also require regular reporting so sellers stay informed about performance and acquire a paper trail which may support their arguments in any litigation.
It is also advisable, where possible, to limit the buyer’s discretion over certain decisions that directly affect the earn-out. For instance, restrictions can be placed on moving assets, changing accounting policies, or reallocating key staff without seller approval. While buyers will resist overly rigid restrictions, balanced protections can help both sides avoid later disputes.
Practical steps to avoid conflict
Including dispute resolution clauses in the agreement can also be helpful. Mediation or expert determination can resolve disagreements quickly and at lower cost than full litigation. These mechanisms are particularly well suited to technical disputes, such as accounting treatments, where an expert’s decision can provide a practical outcome. Having an agreed route to resolution offers reassurance and can reduce the risk of protracted litigation, since everyone understands the dispute resolution mechanism and can accurately anticipate outcomes.
Another practical step is for sellers to consider alternatives to earn-outs altogether. While they appear to promise upside, it can be argued they create more conflict than value by effectively “kicking the can down the road”. Negotiating a slightly lower but fixed price may ultimately deliver greater certainty.
When to seek legal guidance
Earn-outs require careful negotiation and drafting. Lawyers play a crucial role in balancing the competing interests of buyer and seller, ensuring the terms are as clear as possible, and building in effective safeguards. An experienced adviser can also help identify when an earn-out is or is not in a client’s best interests in the first place.
For businesses considering an earn-out in an M&A deal, the risks are real but manageable. With clear KPIs, sensible restrictions on discretion, and robust dispute resolution clauses, it is possible to protect both value and relationships. Seeking legal advice early is the best way to ensure that an earn-out supports the deal rather than undermining it.
If you have questions or concerns about earn-outs, please contact Jaan Larner.