When Does an Earn Out Agreement Make Sense? Part 3
In parts 1 and 2 of “When Does an Earn Out Agreement Make Sense?” I think I’ve done a pretty admirable job of scaring the bejabbers out of anyone considering an earn out agreement as part of the merger and acquisition process.
My intention is not to scare anyone. As an executive coach, I’m here to scrape off all that shines and glitters off the deal, and make sure you see all the warts involved. I’ve seen too many people wooed by dollar signs, and entering into horrible deals.
As you’ve probably gleaned from the first two entries in this series, an earn out is a very complicated deal. But here are some tips to help make sure you have all your ducks in a row before proceeding. Make sure both parties agree to the following:
1. Control. Be very specific on who does what in the arrangement, and be sure that is all agreed upon before the closing. You’re going to learn a lot about your potential partner during this stage, so it’s in your own best interest to be as thorough as possible.
The seller will want complete control of the operation, while the buyer will want some sort of oversight so profits aren’t manipulated. Discretion and fairness must ultimately prevail – and yes, even a degree of trust.
2. Metrics. There are an unlimited number of metrics to base the earn out upon. Earnings per share, new clients, profits – the list goes on and on. A good tip is to focus on gross sales or revenues instead of net revenues, as you can easily dilute these by manipulating expenses.
Be sure both parties agree upon a neutral, third-party to evaluate the metrics and render a decision.
3. Time frame. You’ll need to establish a calendar for when these milestones and metrics need to be met. It’s a delicate balance, as setting it too short will lead to short-term decisions, while making it too long will short-circuit the profit-earning potential. Again, you’re going to learn a lot about each other during this process.
Are all these steps and safeguards necessary? Believe me, the pain and suffering you’ll endure as you establish these is nothing in comparison to a deal gone wrong.
Integrating an earn out as part of your market development strategy can be a win-win for both parties. But only if you’re well-prepared, and take the steps to ensure you’re both on the same team.
(Photo by BC Gov photos)
To read about mistakes to avoid when selling your printing business, download, Rock LaManna’s “12 Code Red Seller Mistakes.”
Rock LaManna provides executive coaching for printing owners looking to grow their printing business, merge with a synergistic partner, make a strategic acquisition, or create a succession plan.