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Why Careful Drafting of Post-Completion Obligations Matters
Earn-outs are a common feature of mergers and acquisitions, particularly where there is uncertainty about the future performance of the target business. In simple terms, they allow part of the purchase price to be deferred and made contingent on the achievement of agreed financial or operational targets after completion. While earn-outs can help bridge valuation gaps between buyers and sellers, they are a notable source of post-completion disputes.
Once a buyer acquires a business, its focus is often on integrating that business into its wider operations. Sellers, by contrast, will want the business run in a way that maximises their earn-out payments. This tension can quickly lead to disagreements over management decisions, resource allocation and the interpretation of earn-out provisions.
Businesses entering into transactions that include earn-out arrangements should ensure that the relevant provisions are carefully drafted, with clear performance metrics, governance arrangements and dispute resolution mechanisms.
What is an Earn-Out?
An earn-out is a mechanism under which part of the purchase price is paid on completion, with additional payments becoming due if the business achieves specified targets during a defined period after completion. These targets may be linked to revenue, profits, customer retention, regulatory approvals or other agreed milestones.
Earn-outs are particularly common in sectors where future growth prospects are difficult to predict, such as technology, life sciences and healthcare. They are also frequently used where founders or senior management remain involved in the business following completion for a period of time.
Why Do Earn-Out Disputes Arise?
Although earn-outs are designed to align the interests of buyers and sellers, they can have the opposite effect once a transaction completes.
Following completion, buyers typically seek to integrate the target company into their existing business. This may involve restructuring operations, reallocating staff, changing sales strategies or redirecting investment. While these decisions may be commercially sensible for the wider group, they can affect the performance metrics on which earn-out payments depend.
Common areas of dispute include:
- Whether the buyer has diverted business opportunities away from the acquired company.
- Whether adequate resources have been allocated to achieve earn-out targets.
- Changes to accounting practices or revenue recognition affecting the calculation of performance metrics.
- Delays to product launches or regulatory approvals.
Because the amounts at stake can be substantial, disputes are often hard fought. However, many disputes may be capable of resolution through negotiation, expert determination or mediation without requiring court proceedings.
The Courts’ Approach
Irish case law on earn-out disputes remains relatively limited. Two recent High Court decisions provide insight into issues likely to arise in Irish earn-out disputes, while English authorities provide useful persuasive guidance where the SPA imposes detailed operational obligations.
One of the leading English authorities is Porton Capital Technology Funds and others v 3M UK Holdings Ltd and another.[1]The earn-out was linked to sales of a medical diagnostic product. The sellers alleged that 3M failed to actively market the product and pursue regulatory approvals, contrary to obligations in the share purchase agreement (“SPA”). The High Court agreed, finding that 3M had breached its obligations under the SPA. The decision illustrates that where an SPA imposes specific post-completion obligations, a buyer’s commercial discretion may be constrained by those contractual commitments.
A similar issue arose in Key Pest Limited and Lakecove Limited v Walsh,[2] a summary judgment decision concerning deferred consideration linked to a post-completion turnover target. The seller argued that the target was missed due to the buyers’ management of the business. In refusing summary judgment, Barr J held that it was arguable that such terms could be implied, sufficient to warrant a full hearing of the issues. Although the Court did not determine whether such a term ultimately applied, the decision illustrates how buyers’ conduct may become relevant in disputes concerning earn-out mechanisms.
A further Irish decision, Sunward Holdings Ltd v Teqnion AB,[3] concerned the second of three potential earn-out payments following the acquisition of Reward Catering Limited by Teqnion AB for €5.2 million plus the earn-out. The dispute turned on whether six invoices raised in August 2024, for trucks delivered in September 2024, fell within the second or the third earn-out period. The SPA required any such dispute to be referred to an independent expert accountant. Before the expert determination had begun, the seller issued proceedings seeking a declaration that the expert was bound by the contractual definition of Gross Profit and could not have regard to other accounting standards. Applying the Supreme Court’s decision in Dunnes Stores v McCann,[4] Twomey J refused the application. He held that the courts should not intervene in advance of an agreed expert determination save in exceptional circumstances, and that the expert was entitled to interpret and apply the relevant contractual terms without court interference. The decision is a clear signal that parties who agree to expert determination will be held to that bargain.
When an Earn-Out Dispute Arises
The above cases illustrate the importance of the SPA as the starting point in any earn-out dispute. Careful drafting remains the best protection against future disputes. Parties should consider whether the SPA should prescribe how the business is to be operated during the earn-out period, what reporting information will be provided to sellers, whether specific accounting principles will apply and whether disputes are to be referred to an expert or the courts. If terms such as these cannot be stated unambiguously at signing, they are likely to become points of dispute after completion.
When a dispute arises, the parties should act quickly to preserve the relevant financial and operational records, identify the precise contractual issue and follow the agreed dispute resolution procedure. Early legal and accounting input can help narrow the issues and determine whether the dispute is best resolved through negotiation, expert determination, mediation or court proceedings.
This article was co-authored by Knowledge Lawyer, Melanie Ardiff.
