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An Earn Out Payment is an additional payment made to the owner(s) of a business entity after the business is sold. This payment is dependent on specific terms and conditions being met by the business as it operates in the years following the sale.The reason Earn Out Payments exist is due to the difference or gap between what a buyer is willing to pay the owner of a business and its asking price. When the gap exists, often the buyer will propose an Earn Out Payment to close the gap. It’s important to understand that an Earn Out is not guaranteed to be paid to the business owner unless such a guarantee is specified in the Earn Out Agreement and the specific agreement’s terms are met.
In recent years, Earn Out payments have become very common in Mergers & Acquisitions. Yet many advisors, business sellers, and buyers find the inclusion of Earn Out Payment agreements in the deal’s structure problematic. This does not have to be the case if the seller and buyer align the terms in the Earn Out Payment agreement with their common objectives following the transaction’s closing.