Earnouts are here to stay, says a recent Grant Thornton dealmaker survey. An overwhelming 94 percent of the 163 respondents surveyed expected to deploy the contingent payments in at least 70 percent of their deals in the next six months. That prediction, while coming from a much smaller sample size than SRS Acquiom’s 2021 M&A Deal Terms Study, is still a marked revision upwards from the near 20 percent of deals deploying earnouts last year. The surge in contingent payments suggests M&A practitioners are less sanguine on the market rally’s prospects than it appears.
Back in May when we examined an uptick in earnouts, the phenomenon seemed to have its roots in pandemic-related uncertainty and fickle debt markets. The ongoing acquisition spree attests that both factors are now less important to buyers. Covid’s M&A cooling effect abated in 4Q20, and private equity is so eager to acquire assets that the industry is increasingly resorting to debt on more expensive terms to close deals faster. Then how to explain the continued use of contingent payments?
Grant Thornton sees market anxiety in the reliability of recent performance. Perhaps dealmakers continue to hedge their avowed confidence in “normalized earnings” with contractual hurdles?
Another impact of the rise in contingent payments: a rise in deal values. This notion is more intuitive: buyers who stacked deal contracts with language allocating risk of future performance toward sellers see a rising share of deal value spent as pandemic effects abate.
The share of total deal consideration paid in earnouts is also on the rise. Last year, sellers could earn a median of 39 percent of deal value via earnout, up from 18 percent the previous year. That’s the highest figure since 2017’s 43 percent of deal value, according to the SRS Acquiom study, covering 1,400 deals with a private target that closed from 2016 to 2020. For acquirers with a more constrained view on a post-Covid rebound, the earnout could continue to prove the avenue of choice.