Earnout
Definition
An earnout is contingent purchase consideration: the seller receives additional payments after closing if the business hits agreed milestones — typically revenue or EBITDA targets over one to three years, or regulatory/product milestones in sectors like biotech (often via CVRs in public deals).
Earnouts bridge valuation gaps between an optimistic seller and a skeptical buyer, and they keep selling managers motivated post-close. They are most common in private deals, founder sales, and situations with high forecast uncertainty.
The downsides are disputes and accounting complexity: sellers worry the buyer will run the business to miss targets, so agreements include operating covenants; under US GAAP, contingent consideration is recorded at fair value at closing and (for non-equity-classified earnouts) remeasured through earnings each period.
Why interviewers ask
"How do you bridge a valuation gap between buyer and seller?" is a classic M&A brainstorming question, and earnout is the expected first answer (alongside stock consideration and seller notes). Interviewers may follow up on why earnouts cause post-closing disputes.
Related terms
Interviews don't test definitions — they test recall under pressure.
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