The buyer wants to base our earnout on net income, but they are planning to migrate our accounting and human resources to their corporate headquarters post-close. How do we structure the earnout accounting rules to isolate our performance from their corporate overhead?

Question

Tyler Smith · Accepted Answer

Basing an earnout on net income when the buyer is taking over your back-office operations is incredibly risky. Their corporate inefficiencies or high overhead allocations can easily wipe out your profitability on paper.

First, reject net income as the earnout metric. Insist on using Gross Profit or Adjusted EBITDA before any corporate allocations. If they refuse, you must write strict accounting guidelines into the purchase agreement.

Second, define exactly which expenses can be charged to your business unit during the earnout period. Explicitly exclude any parent company overhead, shared service allocations, or corporate management fees. Only direct, incremental expenses incurred solely for your operations should be included.

Third, lock in historical cost structures. For example, if they migrate your HR department to their corporate team, specify that the charge to your P&L for HR services cannot exceed your pre-acquisition historical HR cost, adjusted for inflation.

Finally, maintain audit rights. You must have the right to review the books of your business unit quarterly and challenge any allocations.

By establishing these clear accounting boundaries, you ensure that your earnout payout is determined by your team's operational performance, not the buyer's administrative costs.