The buyer is offering a high valuation but wants an earnout based on gross revenue rather than EBITDA, claiming it protects me from their overhead. What are the operational pitfalls of a revenue-based earnout when they take control of our pricing and delivery?

Question

Tyler Smith · Accepted Answer

Revenue-based earnouts sound safe because they avoid post-closing corporate overhead allocations, but they carry massive operational traps. Once the deal closes, you no longer control the pricing levers, the marketing spend, or the delivery margins. If the buyer decides to slash prices to win volume, your top-line revenue might hit the target, but you will destroy the operational health of the delivery team. You will find yourself running a stressed, low-margin business just to chase a payout. Furthermore, if you are still leading this division, you will lack the authority to hire or allocate resources. The buyer can simply starve your department of capital or transfer key engineers to other projects, making it impossible to fulfill the orders. To protect yourself, you must secure operational covenants in the purchase agreement. These covenants must guarantee your business unit a minimum marketing budget, protect your pricing authority within a defined range, and prevent the buyer from reallocating your staff. You also need a clawback provision stating that if they restrict your operational capacity, the earnout is deemed fully achieved. Never accept a revenue earnout without absolute control over the resources required to generate that revenue. In our EOS® work, we define this as protecting the seats on your Accountability Chart that are responsible for the sales and delivery functions. Keep the operational authority locked down, or you will watch your earnout evaporate while working harder than ever before.