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What is an Earnout Agreement? A Comprehensive Legal Overview
Definition & Meaning
An earnout agreement is a type of contract used in the sale of a business. In this arrangement, the buyer pays an initial amount upfront, while the final purchase price is contingent on the business's future profits. Typically, the seller remains involved in managing the business for a specified period after the sale to help achieve the agreed financial targets. This structure allows both parties to align their interests regarding the business's performance post-sale.
Table of content
Legal Use & context
Earnout agreements are commonly used in business transactions, particularly in mergers and acquisitions. They are relevant in various legal contexts, including corporate law and contract law. These agreements can help bridge the gap between the buyer's and seller's expectations regarding business valuation. Users can manage earnout agreements through templates available on platforms like US Legal Forms, which provide legally vetted documents to facilitate these transactions.
Key legal elements
Real-world examples
Here are a couple of examples of abatement:
Example 1: A technology startup is sold for an initial payment of $500,000. The earnout agreement stipulates that the seller will receive an additional $200,000 if the company achieves $1 million in revenue within the next two years. The seller agrees to stay on as a consultant during this period to help meet the target.
Example 2: A restaurant chain is sold with an upfront payment of $1 million. The earnout agreement states that the seller can earn up to $300,000 more based on the restaurant's profitability over the next 18 months, with the seller managing daily operations during that time. (hypothetical example)
State-by-state differences
Examples of state differences (not exhaustive):
State
Key Considerations
California
Earnouts are common, but specific tax implications may vary.
New York
Regulations may require additional disclosures in earnout agreements.
Texas
Earnout agreements are enforceable, but must meet state contract laws.
This is not a complete list. State laws vary, and users should consult local rules for specific guidance.
Common misunderstandings
What to do if this term applies to you
If you are considering an earnout agreement, it is essential to clearly define performance metrics and the duration of the agreement. Consult with a legal professional to ensure that all terms are fair and enforceable. You can also explore ready-to-use legal form templates from US Legal Forms to help create your earnout agreement efficiently. If the situation is complex, seeking professional legal advice is advisable.
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