The buyer wants our earnout calculated using GAAP, but we have always run our business on a cash basis and do not want their corporate accountants manipulating the books post-close. How do we structure the earnout accounting definitions in the purchase agreement to prevent this?

Question

Tyler Smith · Accepted Answer

To protect your earnout, you must reject any generic requirement to use GAAP post-close. Buyers often use GAAP adjustments, such as revenue recognition timing or capitalized software modifications, to artificially depress your earnout EBITDA. The solution is to negotiate a detailed exhibit in the definitive agreement that defines Historical Accounting Policies as the sole governing standard.

This accounting annex must state that in any conflict between GAAP and your historical practices, your historical practices prevail. Specify that no changes in accounting policies, estimates, or reserve methodologies can be made post-closing without your express written consent.

To enforce this, run your financial data through a pre-sale Business Integrity Review to document your exact accounting practices. Include clear rules on how overhead is allocated and how capital expenditures are treated.

Ensure you retain audit rights that allow an independent CPA of your choosing to inspect the post-close books at the buyer's expense if they find an underpayment. This keeps the buyer's corporate finance team from using technical GAAP rules to wipe out your payout.