In a sale of equity in Brazil negotiating the price is always one of the biggest challenges. From the seller’s side, the expectation of receiving the best valuation for the developed business is always high, and often it is not aligned with the buyer, resulting in complex negotiations. To equalize expectations, it is possible to include a remuneration mechanism through an earn-out clause, in which the parties establish certain goals that, if achieved after the closing of the deal, will result in the sellers receiving an extra portion of the price.
However, the clause can become a problem when executed if the criteria for its exercise are not very well defined.
We highlight here 5 points of attention in Brazilian bussines:
1. Objectively define the event: At this point, buyer and seller must clearly state what the trigger will be that justifies the payment. Will it be the achievement of a specific growth target? The acquisition of a specific client? The retention of the sellers in the business for a certain period after closing? There are many questions, and they need to be addressed objectively and transparently from the beginning of the negotiation of the clause.
2. Company Management: This is perhaps one of the most relevant points to consider in Brazil. The management of the company, how the business will be conducted, and especially who will carry out this management, is usually one of the points of greatest future dispute when the sellers remain in the operation, and therefore deserves special attention in the negotiation. After all, if the founder leaves the business, the buyer may start managing the company in a way that the founder’s expectations are not met, directly affecting the earn-out results.
3. Clear metrics for determining the achievement of goals: In cases where the event is related to subjective data, the next step is to reflect in the clause how the evaluation or calculation of achievement will be carried out, including through the creation of formulas, avoiding any room for an interpretation that takes away the buyer’s right to receive the extra installment.
4. Form of remuneration: Many earn-out clauses include other forms of remuneration for sellers, and the price portion may be represented, for example, by receiving equity participation in another business from the buyer.
5. How will the participation in another company be constituted: In cases where remuneration does not occur through monetary payment, it is important to establish what the terms and conditions will be for receiving the installment. In the example given in item 3, in which participation in another business is granted, issues such as partners’ agreements, non compete and non solicitation will also need to be negotiated in the earn-out clause, thus preventing the seller from ending up exposed in other businesses. or, even more serious, there is some impediment to receiving this portion of the shareholding.
Given the relevance of the topic for the closing of an M&A, it is essential that some care is taken when constructing this clause in a Brazilian negotiation, which must be structured in a personalized way for each sales process, thus avoiding future discussions that could have a direct impact on the amount received on the deal.
