The buyer is offering a high headline valuation but insists on tying forty percent of the purchase price to a three-year earnout. How do we structure the operational control and protective covenants to ensure we actually collect this money?

Question

Tyler Smith · Accepted Answer

An earnout is often a bridge to close a valuation gap, but it can easily become a trap if you lose control of the business post-closing. If forty percent of your purchase price is tied to future performance, you must negotiate strict operational and financial guardrails to protect your payout. First, avoid earnouts based on net income or EBITDA. Buyers can easily manipulate these figures post-close by allocating corporate overhead, charging management fees, or shifting expenses to your division. Instead, tie the earnout to gross revenue or gross profit, which are much harder to manipulate. Second, secure operational covenants in the purchase agreement. You must retain the authority to run the business day-to-day. Ensure your leadership team remains in place and continues using your EOS framework, including the Level 10 Meeting and quarterly Rocks, to drive focus. If the buyer can unilaterally change your pricing, starve your marketing budget, or reallocate your key employees, you will miss your metrics. Third, include a catch-up provision. If you miss your target in year one but exceed it in year two, the cumulative performance should count toward your total payout. Finally, negotiate an acceleration clause. If the buyer sells the company again, terminates your key leaders without cause, or breaches operational covenants, the entire earnout should immediately become due and payable. Protect your upside by ensuring that if they buy the business, they do not get to break your engine and make you pay for it.