Yesterday I wrote about the trap of anchoring on the wrong valuation, the inflated number a banker dangles to win your mandate, and how it quietly kills good deals.
Today, the flip side. Let's say you've avoided that trap. The offers are in. Now there's only one number you should be looking at — and it's not the headline price.
Years ago, when I was reviewing an acquisition offer for Tatango (an offer we would end up turning down, only to learn that the next day, in violation of the LOI, they had poached our Chief Technology Officer) my attorney, Charlie Carter, told me something I've never forgotten:
"The only number that matters in an acquisition is the cash you get at close. Everything else is a maybe."
I asked him why. His answer was simple: in his decades of doing M&A deals, the vast majority of earnouts he'd seen never paid out. Not "paid out less than expected" but paid out nothing.
At the time, I thought he was being a little cynical. Now, after watching dozens of friends sell their companies and never receive a dime of the earnouts, I think he was dead right.
The Pattern I Keep Seeing
An entrepreneur calls me excited. They just got a $200M offer. I being the wet blanket, party popper I am, while they’re popping champagne on the other end of the phone celebrating, I ask the question: how much cash are they paying you at close?
"Ugg Derek you’re such a buzzkill… it’s $100M. The other $100M is an earnout over three years if we hit our targets, but don’t worry, the acquirer is going to provide us X, Y and Z to do that so that extra $100M is a lock." Then they add some line about how they “trust these guys, they’re really good guys, they want us to succeed, if we succeed, they succeed, etc.”
I know what's going through their head: they just got offered $200M to sell their company. In reality, I look at it as a $100M offer to sell their company, and they're about to sell their company for $100M and then spend three years chasing the earnout number that they will most likely never see.
But second time entrepreneurs know the game. My buddy who recently sold his second company, a gaming studio company, told me the following: "On the sale of my first company, I got burned on the earnout and never saw a dime. When I sold my next company, my counsel told me to value the earnout at zero. I listened."
The Actual Data on Earnouts
Obviously I don’t have enough friends that have sold their companies to have a big enough sample size to be statistically accurate on how many entrepreneurs actually get their promised earn outs, but luckily SRS ACQUIM does in their 2024 M&A Claims Insights Report from more than 850 private-target acquisitions, valued at approximately $168 billion.
The results:
Only 21% of all earnout dollars promised ever got paid. Seventy-nine cents of every dollar promised, gone.
41% of deals got nothing at all. Not "less than expected." Zero.
The median deal received just 14% of its maximum earnout. Fourteen percent.
So when I tell entrepreneurs to value the earnout at zero, I'm not being cynical. I'm being statistically generous. The data is screaming the same thing my attorney told me 15 years ago.
It's Usually Not Even Malicious
Here's the part entrepreneurs don't expect: most earnouts don't fail because the acquirer is shady. They fail because the world changes.
The economy shifts. The acquirer's board reprioritizes. A new CEO comes in with a different vision. Your product no longer fits their roadmap. The customer base they promised to plug you into gets reorganized. The engineers they were going to allocate to help you hit your targets get pulled onto something else.
You're not in control anymore. They are. And the resources you need to hit your earnout milestones now belong to someone whose priorities have moved on from your deal.
A buddy of mine who sold his healthcare company with an earnout described it to me like this: “Our deal was 70% cash, 20% earn out, and 10% rollover. When we closed we put a lot of trust in the acquiring entity to help us achieve our earn out. We had a great opportunity to do so as our business model was really strong. But I’m not sure they had the intentions of ever allowing us to achieve what they asked. Nonetheless, many years later, we are in litigation trying to get what we agreed to. It’s a real shame and wasted opportunity. I would do the deal much different in the future.”
Or another example, In 2012, Jason Swenk sold his digital advertising agency, Solar Velocity for 50% cash at close and 50% earnout over two years. Nine months in, the acquirer was itself acquired. The new owner reinterpreted the earnout timeline against the 9 months that had already elapsed instead of the original 24. Jason got nothing. His policy since: "no more earnouts."
"But Derek, the Contract Protects Me"
"But Derek, the acquirer is contractually obligated to provide those resources. We ensured this was written into the acquisition. So how can I get screwed?"
You're not alone in thinking that. The SRS Acquiom 2026 Deal Terms Study found that 82% of acquisitions with an earnout included a "Commercially Reasonable Efforts" (CRE) clause, language requiring the buyer to use a reasonable level of effort to operate the business in a way that gives the earnout a fair chance of being hit.
Sounds protective, right? It isn't. "Commercially reasonable efforts" has no fixed meaning. Courts interpret it case by case, and they consistently give buyers wide latitude. As long as the buyer can point to any legitimate business reason for their decisions (reorganizing, cutting marketing budgets, reassigning your team, deprioritizing your product) the court will usually call it a reasonable business decision rather than a breach.
I've seen this play out time and time again, and the contract doesn't really matter. The acquirer of your business is almost always much larger and much better funded than you. They shrug off your demands and tell you to sue them. Now you're forced to sue a much larger company, paying all the legal bills out of your own pocket while the case drags on for years. By the time you settle and pay your lawyers, there's nothing left. That’s the best case scenario.
Want some real world examples? Check out the Harvard Law School Forum on Corporate Governance article "The Enduring Allure and Perennial Pitfalls of Earnouts." It cites two cases that illustrate exactly this dynamic:
In Airborne v. Squid Soap, the buyer had agreed to pay up to $26.5M in earnouts. After closing, the buyer hit a "corporate crisis," stopped marketing the acquired product, and the earnout targets weren't met. The seller sued. The court sided with the buyer, ruling the contract didn't require any specific marketing spend.
In Fireman v. News America Marketing, the buyer rebranded the acquired product, removed key talent, and refused to use its sales force to market it. The court called these "legitimate business decisions" and ruled for the buyer.
My Rule
When I help entrepreneurs evaluate acquisition offers, I tell them to evaluate an offer by looking at the cash that will hit the bank account at close. That's the deal value.
If someone offers you $100M cash + $100M earnout, value the deal at $100M. If $100M isn't a deal you'd take to sell your company, don't take the deal. The earnout is a lottery ticket, not compensation.
A quick note on escrow: escrow is fine. As long as it's held in a third party account (typically with an investment bank) under proper legal structure, that money is essentially yours. Escrows exist to true up working capital and protect against unknowns that surface post close. That's normal. The danger is the earnout, where the acquirer holds the money, controls the conditions, and you're left trying to pry it from their hands.
When I sold Tatango, it was an all cash deal at close. No earnout. I knew exactly what the deal was worth the day we signed, which is also why I signed it.
The Bottom Line
If you're an entrepreneur evaluating an acquisition offer, do this exercise: cross out everything except the cash at close, and ask yourself one question:
If this were the entire deal, would I still sign it?
If the answer is no, don't sign it. Because in most cases, that's exactly what the deal turns out to be.
Need Help Evaluating an Acquisition Offer?
I've been on your side of the table. Over the years I evaluated a lot of LOIs for my own company (some good, some bad, some really bad) before eventually selling in an all cash deal to private equity. If you want help thinking through your offer, click here to work with me.
Real Founders, Real Stories
After publishing this post, I got a wave of responses from founders who'd lived this firsthand. A few stuck with me. Sharing here (anonymized to first names only):
Eric:
Can't speak publicly about it, but it happened and a lawsuit ensued.
Todd:
My advice would be to not do it. We were approached to sell when we weren't for sale. I hadn't right-sized the company to maximize EBITDA and got talked into an earnout scenario so they could acquire right away. If you do take an earnout, there are contractual details I would have negotiated differently — but there's still serious risk.
Jeff:
My partner had been through a prior exit with an earnout. The first thing he told our banker was that we would never do one. Not what a banker wants to hear on the first call. We landed on a 'butts in seats' agreement instead — thank goodness.
Ashmer:
We're currently suing for our earnout.
Eli:
I got hosed on the cash payment we were owed after the first year of the earnout — not even tied to any performance milestones. When I put my foot down about the payment, they fired me. Sued the acquiring company and two years later they settled for about 80% of what was owed plus legal fees. Not a fun experience, but I sure learned there are a lot of different ways folks operate.
Ret:
My partner and I insisted on 100% cash. No earnout, no sticking around. Call us if you need a password or something, otherwise leave us alone. The money was enough and it was time.
Brady:
I wouldn't have sold if I wasn't okay with the initial tranche only.
D:
I sold two companies. With the first, I was advised to demand all cash upfront — great advice. With the second, I didn't have that leverage. The buyer, a strategic, tried to not pay the earnout, and I was forced to hire a litigator.
Sam:
I've heard plenty of stories of acquirers starving the acquired 'division' of resources so it's impossible to hit the earnout. No operating capital, no chance.
Chris:
Having been burned once, the next time I was offered an earnout, I strictly followed my counsel's advice and treated it as effectively a $0 value for the deal. I used the existence of the terms as leverage in negotiations but kept the focus on the initial cash. Counsel's advice was 100% validated.