Published by Evolution Capital | IT/Telco M&A Specialists | 25 Years | 250+ Transactions
Evolution Capital · 25 Years · 250+ Deals
Earnout Burnout
Earnouts fail to pay out in full more than 70% of the time in IT services transactions. The reasons are structural, not circumstantial. Understanding why, and how to protect yourself, is one of the most important things an IT services founder can do before going to market.
Published by Evolution Capital | IT/Telco M&A Specialists | 25 Years | 250+ Transactions
25+
Years in technology M&A
250+
Transactions
$1bn+
In completed transactions
“I felt like I was being judged on my ability to drive a car, but someone else was steering and controlling the pedals.”
Evolution Capital · From the trenches
- At a Glance
What You'll Learn.
Table of Contents
01
Why Earnouts Are So Common in IT Services
02
The Five Structural Reasons Earnouts Fail
03
The Hidden Costs of Earnouts
04
When Earnouts Can Work
05
Better Alternatives to Earnouts
06
If an Earnout Is Unavoidable
07
How Evolution Capital Can Help
09
Common Questions
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I remember being a much younger adult, with considerably more hair on my head, sitting in one of my first finance lectures at university. The professor, who had a similar relationship with hair as I do now, introduced a concept that has stayed with me ever since: the time value of money. A pound today is not worth the same as a pound in the future. The reasoning is intuitive once you hear it. A pound today can be invested, can generate returns, can compound over time. A pound promised in two years carries uncertainty, inflation risk, and opportunity cost. The further away the payment, and the more conditions attached to it, the less it is worth in present value terms.
I have thought about that lecture many times sitting across the table from founders who are about to agree to an earnout. Earnouts are, at their core, a way of deferring a portion of your purchase price into the future and attaching conditions to it. Before you agree to one, the time value of money question is exactly the right one to ask. That future pound is not just uncertain. It may genuinely be worth less than the pound you could take today.
“I left £800,000 on the table in an earnout I’ll never see. Those two years post-sale were the worst of my professional life. If I could go back, I’d have taken £2 million less upfront to avoid the whole thing.”
This from a serial entrepreneur who had successfully sold two previous businesses. He understood M&A. He had experienced legal counsel. He negotiated hard on the earnout terms.
And he still got burned.
His experience is not unusual. In our experience across IT and Telco transactions, earnouts fail to pay out in full far more often than sellers expect when they agree to them. The reasons are structural, psychological, and commercial. Most sellers don’t understand them until it’s too late.
Why Most Earnouts Fail and What Works Instead in IT Services M&A
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Why Earnouts Are So Common in IT Services Transactions
Earnout structures, where a portion of the purchase price is deferred and paid only if certain performance targets are met, have become increasingly common in lower mid-market IT and Telco transactions.
The logic appears compelling from both sides.
From the buyer’s perspective: they are acquiring a business with genuine risks. Will customers stay post-acquisition? Will key employees remain? Can the founder’s relationships be transitioned to new management? Will the technology platform continue to perform? Earnouts allow buyers to pay a premium valuation, but only if these risks don’t materialise.
From the seller’s perspective: earnouts bridge valuation gaps. The buyer might only be comfortable paying 7x EBITDA upfront, but with an earnout the total consideration could reach 9 to 10x if performance targets are hit. This allows the seller to achieve their valuation expectations while giving the buyer downside protection.
In IT managed services, telecommunications, and cybersecurity businesses, where customer concentration, founder dependency, and technology transitions create genuine uncertainty, earnouts look like an elegant solution.
There is also a legitimate seller perspective that is worth acknowledging. Many founders have spent the years before a sale investing in the business: building delivery capacity, developing new service lines, hiring ahead of demand, putting in infrastructure that will take time to generate returns. They do not want to be penalised for doing the right thing for the business. If a buyer is only willing to pay for what has already happened, and the seller has genuinely created the conditions for growth that they haven’t yet been able to harvest, an earnout can feel like a fair way to get value for that work. This is a reasonable position, and in the right circumstances an earnout can be a genuine solution rather than a compromise.
The problem is that the structural realities of how earnouts play out in practice frequently undermine even the most well-intentioned structures.
Except, in most cases, they don’t deliver what either side hoped.
- What Matters Most
If an Earnout Is Unavoidable
01
Keep It Short
Aim for the shortest practical earnout period and avoid unnecessary exposure to future uncertainty.
02
Keep Metrics Simple
Use clear, objective measures wherever possible and avoid overly complex EBITDA calculations.
03
Protect Your Autonomy
Make sure the agreement gives you meaningful control over the decisions that affect your targets.
04
Define Everything
Agree detailed calculations, reporting rules, cost allocations and worked examples before signing.
05
Build in Protection
Consider independent calculations, monthly reporting and acceleration clauses if circumstances change.
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The Five Structural Reasons Earnouts Fail
Integration kills performance
The fundamental problem with earnouts is that they tie payment to performance metrics during a period when the business is undergoing the most significant change it has ever experienced.
New ownership brings new systems, new processes, new reporting requirements, and new approval hierarchies. Things that the founder could decide in minutes now require multiple levels of sign-off. Purchasing that was handled locally gets centralised. Customer service gets consolidated into shared service centres.
Every one of these changes, rational from a buyer integration perspective, damages short-term performance.
We worked with a managed services founder whose EBITDA had grown steadily at 12 to 15% annually for five years. His earnout was structured around maintaining that growth trajectory for two years post-acquisition. Within six months of closing, the buyer had centralised all procurement, adding two weeks to vendor approval processes; implemented their corporate ERP system, which created invoicing delays that frustrated customers; consolidated technical support into a regional hub, eliminating the local responsiveness that had differentiated the seller’s service; and required all customer contract changes to go through legal review, slowing sales cycles significantly.
Year one EBITDA grew 3%. Year two it was flat. The founder didn’t fail to perform. The integration strangled performance. But the earnout still didn’t pay out.
One partial mitigation worth noting: the more sophisticated the buyer’s financial reporting infrastructure, and the more the seller’s business has been prepared to report in a way that aligns with that infrastructure, the less room there is for the earnout to be undermined by reporting methodology disputes. A seller who goes into an earnout period with clean management accounts, clearly defined metrics, and data that can be sliced in the way the buyer’s consolidation requires is in a materially better position than one whose financials need to be rebuilt into a new format post-acquisition. This is one of the more specific ways that pre-sale financial preparation through EC Analytics can protect earnout value, not just improve the headline price.
Loss of autonomy without loss of accountability
Earnouts create an impossible dynamic: the seller is accountable for results but no longer in control of the decisions that drive those results.
You are responsible for hitting £2.5 million EBITDA, but you cannot hire the people you think are needed without buyer approval, make pricing decisions without corporate sign-off, invest in marketing or business development without navigating budget processes, or respond quickly to customer issues because you no longer control service delivery.
One seller described it this way: “I felt like I was being judged on my ability to drive a car, but someone else was steering and controlling the pedals. When we crashed, they blamed me for not driving well enough.”
This asymmetry is inherent to earnout structures. The buyer needs integration and control. The seller needs autonomy to perform. These requirements are fundamentally incompatible, which is why earnout structures so often fail both sides.
Measurement and definition disputes
Even with detailed earnout agreements, disputes over measurement are almost inevitable.
EBITDA definitions are particularly prone to disagreement. What counts as EBITDA for earnout purposes? Are corporate overhead allocations excluded? What about one-time integration costs? Intercompany charges? We reviewed an earnout dispute where the seller believed he had exceeded the EBITDA target by £120,000. The buyer’s calculation showed he had missed by £85,000: a £205,000 swing. The difference came down to how corporate IT costs were allocated, whether certain professional fees were capitalised or expensed, and the treatment of a customer contract termination payment. Both interpretations were defensible under the earnout agreement language. It took eight months and £60,000 in legal fees to resolve.
Revenue-based earnouts are cleaner but not immune. When is revenue “earned”? At contract signature? At service delivery? At invoicing? At payment? Different interpretations can swing six-figure earnout payments. And if the earnout rewards new customer acquisition, what counts as “new”? An existing customer buying a different service line? A new division of an existing corporate parent? A customer who left and came back?
These are not academic questions. They are sources of expensive, relationship-destroying disputes.
Misaligned incentives
During the earnout period, the buyer and seller want fundamentally different things.
The seller wants to maximise earnout metrics during the earnout period, even if it means borrowing from future performance. They might delay necessary investments, push aggressive sales tactics, or cut corners on service delivery to hit short-term targets.
The buyer wants to optimise long-term value, even if it means lower performance during the earnout window. They might invest heavily in systems, staff, or customer acquisition that depress current EBITDA but position the business for sustainable growth.
A telecommunications business we advised had a two-year EBITDA earnout. In year one, the founder wanted to hire three additional sales people to pursue a promising new market segment. The buyer pushed back: the investment would reduce year one EBITDA by £180,000 and jeopardise the earnout payout, even though it was strategically sound. The founder didn’t make the investment. He hit his year one target. But the business missed the market opportunity, and by year three competitors had established dominant positions. Short-term earnout incentives had discouraged the right long-term decision.
Goalposts move
Markets change. Competitive dynamics shift. Customer needs evolve. Businesses growing 20% annually can suddenly face margin compression or revenue headwinds through no fault of management. We have seen this on deals we have advised: a seller’s largest customer gave notice shortly after completion, for reasons entirely unrelated to the sale or the quality of service. The timing was devastating. The earnout was structured around revenue growth, and losing that customer early in the earnout period made hitting the targets effectively impossible before the clock had barely started. The seller lost most of their earnout value through an event outside their control.
Even more problematically, buyers sometimes deliberately change conditions in ways that reduce earnout payments. We have seen buyers reallocate top customers to other divisions, removing them from the earnout calculation; increase overhead allocations that reduce calculated EBITDA; delay customer contract renewals until after the earnout period ends; and reassign the seller’s best employees to other parts of the business.
Some of these actions are legitimate business decisions. Others are arguably earnout manipulation. Proving deliberate sabotage is nearly impossible and ruinously expensive to litigate. The result is the same either way.
There is a counterpoint worth acknowledging on the buyer’s side. Integration into a larger group should, in theory, bring benefits that improve performance during the earnout period: cross-sell of the wider group’s products into the seller’s customer base, cost synergies from shared infrastructure and procurement, white space in the seller’s market that the buyer can help pursue with additional resource. In practice, these benefits rarely materialise fast enough to offset the integration drag. But structuring earnouts to account for them, by carving out group-enabled revenue or specifying that synergy benefits flow to the seller, can at least acknowledge the two-way nature of what is supposed to be happening.
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The Hidden Costs Beyond the Lost Money
Earnout failures are financially costly. The psychological and personal toll is often worse than the economic loss.
You sold your business, the thing you built over ten, fifteen, twenty years. You expected to feel relief, satisfaction, and freedom. Instead you are still showing up every day, but you no longer control anything. You watch decisions being made that you disagree with but cannot override. You see customers leaving because of service changes you warned against. You watch the slow degradation of something you built and genuinely cared about.
And you are trapped. You cannot leave without forfeiting the earnout. You cannot speak up too loudly without damaging the relationships you need to preserve. You cannot start planning your next chapter because you are contractually stuck in the one you already closed.
Multiple sellers have described this period as the worst professional experience of their lives.
Earnouts typically run eighteen to thirty-six months. During that entire period, you are locked in. You cannot start a new venture. You cannot take an advisory role with a competitor. You cannot invest meaningful time in the life you sold the business to have.
One seller calculated it this way: “I was chasing a £600,000 earnout over two years. It consumed 60 to 80 hours per week in a job I’d sold specifically because I wanted out. If I’d taken a lower upfront price and spent those two years consulting at even £200,000 per year, I’d have been financially better off and infinitely happier.”
The family impact is equally real. The earnout period delivers the opposite of what the sale was supposed to provide. The stress of hitting targets you don’t fully control is intense. The promised time with family doesn’t materialise. The vacation gets postponed because you can’t step away during a critical quarter. The earnout that was supposed to fund family goals ends up damaging family relationships instead.
When Earnouts Can Work
Despite their high failure rate, earnouts aren’t always disasters. In specific circumstances, with proper structure and realistic expectations from both sides, they can work.
Genuine valuation uncertainty
If the business is at an inflection point, a major contract pending, a new product launching, a market expansion underway, where outcomes genuinely cannot be predicted, an earnout may be the only way to bridge buyer caution and seller optimism.
Retention is genuinely critical
For highly technical businesses where the founder’s expertise is irreplaceable in the short term and buyers need eighteen to twenty-four months to transition knowledge, earnouts can create real alignment.
Market conditions require it. In challenging financing environments or uncertain economic conditions, buyers simply won’t pay full valuation upfront. In lower mid-market IT services, earnouts are often not optional: the question becomes how to structure them correctly.
A word of caution worth adding here. If you have spent the period before a sale making your business as lean as possible, stripping out costs, deferring investment, optimising purely for near-term EBITDA to maximise the multiple, an earnout can come back to bite you. A business that has been primed for sale and not for the time after it may not have the capacity, the team, or the infrastructure to perform well during an earnout period. Buyers are often acutely aware of this: it is one of the reasons they propose earnouts in the first place, as a mechanism to derisk precisely this scenario. If you have built a genuinely strong, investable business, that is very different from one that has been aggressively optimised for a single moment in time.
Short duration matters most
The longer the earnout period, the more things can go wrong. Markets change, integration disrupts performance, relationships deteriorate, measurement disputes arise. Earnouts of twelve months or less significantly outperform longer structures. The business hasn’t yet been fully integrated, the seller retains more operational control, and there is less time for things to break.
“Day one” earnouts, one-time payments sixty to ninety days post-completion based on immediate outcomes like customer retention or specific contract renewals, can work well precisely because they measure near-term results before major integration occurs.
Simple metrics outperform complex ones
EBITDA-based earnouts are uniquely prone to disputes because EBITDA is a calculated figure with dozens of subjective inputs. Revenue-based earnouts are cleaner. Even better are earnouts based on objective binary outcomes: did customer X renew their contract, did the business retain employee Y? These eliminate subjectivity entirely.
Earnouts should not dominate total consideration
The higher the proportion of total consideration sitting in the earnout, the higher the stakes and the higher the risk. When an earnout represents a meaningful performance bonus on top of a fair upfront payment, the psychological stakes are manageable and the relationship between buyer and seller can remain constructive. When the earnout represents the bulk of what you are expecting to receive, every operational decision becomes charged, every dispute feels existential, and the relationship that needs to be strong to make the earnout work is exactly the one that gets most damaged.
There is no universal formula for the right proportion: it depends on the deal size, the specific risks being addressed, and the nature of the earnout metric. But the principle is clear: the more dependent your financial outcome is on the earnout paying out, the more carefully you need to think about whether accepting a lower certain payment today is the better economic and personal decision.
Research the buyer’s track record
Some buyers have strong records of earnouts paying out. Others have consistent records of earnouts that fail. If you are considering an earnout structure, ask your advisers what they know about this buyer’s history. Talk to previous sellers if you can. A buyer who has paid earnouts in 80% of their acquisitions is fundamentally different from one who has paid out in 20%.
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Better Alternatives to Earnouts
Given the failure rate and structural problems, sellers should push hard for alternatives.
Lower valuation, more cash upfront
Instead of £15 million with £4 million in earnout risk, take £12 million all-cash at closing. You’ve left £3 million on the table assuming the earnout would have paid fully, which it probably wouldn’t have. But you’ve eliminated two years of stress and captivity, removed uncertainty and measurement disputes, and freed yourself to pursue other opportunities immediately. Peace of mind and freedom have real financial value.
Deferred consideration tied to time, not performance
Instead of earnouts tied to hitting targets, negotiate deferred payments tied only to the calendar. £12 million at closing, £1 million after twelve months, £1 million after twenty-four months. These payments happen automatically based on time, not EBITDA or revenue performance. The buyer gets purchase price deferral that helps their capital structure. You get certainty.
Seller note with reasonable interest
A seller note, where you effectively loan the buyer a portion of the purchase price, serves similar capital structure purposes without performance risk. £10 million in cash at closing and £3 million in a seller note at 6 to 8% interest over three years. You bear credit risk rather than performance risk, which is fundamentally more controllable.
Retention bonuses for key staff instead
If the buyer’s real concern is retaining critical employees, address it directly. The buyer pays £500,000 in retention bonuses to your top team, conditional on them staying for eighteen to twenty-four months. This solves the actual problem without making you accountable for performance you don’t control.
Deferred consideration tied to time, not performance
For specific risks such as regulatory compliance, IP ownership, or customer contract terms, W&I insurance can protect the buyer without requiring seller earnouts. The buyer pays insurance premiums that cover specific disclosed risks. If those risks materialise, the insurance pays. You are not involved.
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If an Earnout Is Unavoidable: Critical Negotiation Points
If market conditions make an earnout genuinely unavoidable, these protections are essential.
The SPA is where earnout protection either exists or it doesn’t. The broad commercial terms negotiated at LOI stage are only the starting point: it is the specific definitions, mechanics, and protections in the legal documentation that determine whether the earnout you agreed in principle is the one you actually receive.
Define EBITDA in excruciating detail. The earnout agreement should include a detailed appendix specifying exactly how EBITDA will be calculated: treatment of corporate overhead allocations, handling of one-time items, capitalisation policies, intercompany charges, integration costs, and any group recharges. Every subjective area should have a pre-agreed treatment, with worked examples where the application is not obvious. The definitions that feel unnecessary to negotiate in advance are almost always the ones that generate disputes later.
Retain operational autonomy in writing. The agreement should explicitly grant you authority to make hiring and compensation decisions up to defined limits, set pricing and approve customer contracts, and make operational decisions without buyer approval for matters below specific thresholds. If you are accountable for performance, you need authority over the inputs. Get it in writing.
Require independent calculation of earnout results. Don’t let the buyer unilaterally determine whether targets were met. An independent accounting firm should calculate earnout results based on pre-agreed definitions. The cost of £10,000 to £25,000 is worth it for objectivity.
Monthly reporting on earnout metrics. You should receive monthly reporting showing exactly where performance stands against targets with full supporting detail. This allows course-correction during the earnout period rather than discovering in month twenty-four that you missed because of how costs were allocated in month six.
Acceleration clauses. The earnout should become immediately payable if you are terminated without cause, the business is sold during the earnout period, the buyer materially breaches the earnout terms, or integration creates changes that substantially impair your ability to perform.
Clear dispute resolution mechanisms. Define how earnout disputes will be resolved: mediation, arbitration, or litigation; who bears costs; timelines; governing law. Without this, a £200,000 earnout dispute can consume £100,000 in legal fees and eighteen months of your life.
- Key Insight
Don't Let Your Exit Become an Earnout Trap
Before accepting an earnout, understand what you’re really giving up and whether the potential upside justifies the risk. Evolution Capital can help you assess the structure, negotiate stronger protections and maximise the value you receive at completion.
Our consistent advice across 250 transactions in this sector is to avoid earnouts wherever possible and to accept a lower upfront price in exchange for certainty and freedom.
If earnouts are unavoidable, the structure matters enormously. Short duration. Simple, objective metrics. Genuine autonomy provisions. Detailed definitions with worked examples. Independent calculation. Monthly reporting. Acceleration clauses. And SPA language that is robust enough to withstand the disputes that will almost certainly arise.
EC Analytics (Virtual CFO / CFO Assist)
The financial infrastructure that protects earnout value is the same infrastructure that improves the headline price: clean management accounts, clearly defined metrics, data that can be reported in the buyer’s required format from day one of the earnout period. Sellers who go into an earnout with well-prepared financial reporting are harder to squeeze on definitions and less vulnerable to reporting methodology disputes. EC Analytics builds this before the sale process starts.
We run sale processes for IT services businesses with a specific objective: maximising the cash you receive at completion rather than inflating headline figures with earnout components that are unlikely to pay out. This means positioning the business correctly so buyers understand and price the quality of what they are buying, creating competitive tension so buyers pay upfront rather than deferring risk, and structuring earnout provisions when they are unavoidable in a way that gives you genuine protection. When earnout discussions arise, we negotiate the commercial terms: duration, metrics, autonomy provisions, acceleration triggers, and the treatment of group-enabled synergies. We have seen enough of these structures to know where the leverage points are.
When we advise sellers on vendor due diligence, a key output is the normalised EBITDA analysis that forms the basis of earnout metric definitions. Getting this right before you go to market, rather than leaving it to be defined under pressure during deal negotiations, is one of the most important steps in earnout protection. We also provide SPA advisory services: reviewing earnout definitions, testing EBITDA calculations against proposed SPA language, and identifying the specific provisions that are most likely to generate disputes. This is a distinct service from the commercial negotiation, focused on ensuring the legal documentation actually delivers the deal you thought you agreed.
The worst outcome in an IT services sale is not failing to receive an earnout payment. It is spending two years trapped in a role you have already sold, watching something you built deteriorate, pursuing targets you cannot control. That is earnout burnout.
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A Note on Confidentiality
The deal examples referenced in this article are drawn from real transactions. Names, figures and identifying details have been anonymised or adjusted to protect client confidentiality. They are included to illustrate genuine patterns and dynamics we have observed.
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Related Articles
Why do most earnouts fail to pay out in full in IT services acquisitions?
In our experience, earnouts fail to pay out in full far more often than sellers expect, and the reasons are structural rather than circumstantial. Integration changes, where the buyer centralises procurement, consolidates service delivery, or implements new systems, damage short-term performance regardless of management quality. The seller loses operational authority while retaining accountability for results. Measurement disputes arise over EBITDA definitions or revenue recognition timing. External events, like a key customer departure in the early months of the earnout period, can make targets effectively unachievable before the seller has any opportunity to respond. And the incentives of buyer and seller are fundamentally misaligned throughout.
What is a better alternative to an earnout when selling an IT services business?
The most straightforward alternative is accepting a lower upfront price for more cash at completion. Taking £12 million in cash rather than £15 million with a £3 to £4 million earnout attached is often the better financial outcome when the probability of the earnout paying out fully is weighed realistically. Deferred consideration tied to time rather than performance, seller notes with interest, and retention bonuses for key staff are all structures that address buyer concerns without creating the accountability-without-authority problem that earnouts generate.
How long should an earnout period be in an IT services acquisition?
Twelve months or less significantly outperforms longer earnout periods. The longer the earnout, the more integration changes, market shifts, and measurement disputes can affect outcomes. The most reliable earnout structures are “day one” arrangements: one-time payments sixty to ninety days post-completion based on specific near-term outcomes like customer retention rates or contract renewals, measured before major integration has occurred.
Should an earnout be based on EBITDA or revenue?
Revenue-based earnouts are significantly less prone to disputes than EBITDA-based ones, because EBITDA involves dozens of subjective accounting inputs that buyers and sellers routinely interpret differently. The most reliable earnout metrics are objective and binary: did a specific customer renew, did the business retain a specific key employee? Where EBITDA-based earnouts are unavoidable, the definition of EBITDA for earnout purposes should be agreed in exhaustive detail before the deal is signed.
How much of a deal should an earnout represent?
There is no universal rule, and the right proportion depends on the deal size, the specific risks being addressed, and the nature of the earnout metric. The principle is straightforward: the more your financial outcome depends on the earnout paying out, the more carefully you need to weigh whether accepting a lower certain payment today is the better decision. When the earnout is a meaningful bonus on top of a fair upfront payment, the stakes are manageable. When it represents the bulk of your expected proceeds, the adversarial dynamic that creates is one of the most reliable predictors of a difficult post-completion relationship.
Can you negotiate operational autonomy during an earnout period?
Yes, and you should. The earnout agreement should explicitly grant authority to make hiring and compensation decisions within defined limits, set pricing and approve customer contracts, make operational decisions below specific thresholds without buyer approval, and control a protected budget for necessary investments. In practice, buyers resist this because they want integration to proceed. The tension between buyer integration requirements and seller autonomy needs is one of the core structural reasons earnouts fail.
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