Anonymised, illustrative composite. A specialty distributor sold with a two-year EBITDA earn-out, and a buyer who resold the whole operation eight months in — leaving no business left for the metric to measure.
At a glance
A specialty distributor was sold in an asset purchase for $2,400,000 cash at closing, with a further earn-out of up to $600,000 payable over a 24-month period based on 15% of EBITDA generated by the acquired business above a baseline threshold. The purchase agreement included the standard earn-out protections a seller’s counsel typically negotiates: a covenant that the buyer would operate the acquired business in the ordinary course consistent with past practice, a prohibition on taking action for the primary purpose of reducing the earn-out payment, and a right for the seller to audit the earn-out calculation.
In month eight, the buyer — itself a portfolio company of a larger strategic group — sold its entire distribution division, including the assets acquired from the seller sixteen months earlier, to an unrelated third party as part of a broader corporate reorganisation unrelated to the seller’s deal. The buyer had not acted in bad faith toward the earn-out specifically; the sale was a genuine, arm’s-length transaction driven by the buyer’s own strategic priorities. But it meant that, from month eight onward, there was no “acquired business” left for the buyer to operate, no EBITDA generated by it that the buyer controlled, and nothing for the earn-out formula to measure. The seller demanded either continued earn-out payments from the new owner or acceleration of the full remaining $600,000.
No statute governs this, and none was found to. The operating covenant the seller had negotiated — operate in the ordinary course, do not act to reduce EBITDA — was drafted for the conventional earn-out dispute: a buyer that keeps the business but starves it, reallocates its customers, or loads it with costs to suppress the metric. It assumes continuous operation by the buyer throughout the earn-out period and simply constrains how that operation is conducted. It has no purchase on a buyer that stops operating the business at all, because it was never drafted to. Whether the earn-out survives a sale of the business, and on what terms, is answered only by whether the purchase agreement includes an acceleration clause — a provision that says, in substance, that a change of control or sale of the acquired business during the earn-out period causes some or all of the remaining earn-out to become immediately payable, calculated on a deemed-achievement basis (target met, a trailing-twelve-month run rate, or a fixed floor).
The earn-out formula, at the run rate the business had achieved in its first seven months, was tracking toward roughly $380,000 of the $600,000 maximum over the full 24 months — a reasonable, if imperfect, basis for a deemed-achievement calculation had one existed. Instead, with sixteen months of the earn-out period remaining and no mechanism to value what those sixteen months would have produced, the seller’s practical claim was worth whatever it could negotiate directly with the buyer, not whatever a formula said.
Without an acceleration clause, the seller had no contractual entitlement to any further earn-out payment once the acquired business changed hands, and no covenant to point to that the buyer had breached — selling the division was not itself a breach of an ordinary-course covenant, since the covenant governed how the business was run while the buyer owned it, not whether the buyer could sell it. The seller negotiated a one-time settlement payment directly with the buyer, well below the $380,000 run-rate estimate, in exchange for a release, because the alternative was litigating a breach theory built on a covenant that did not fit the facts.
A resale-acceleration clause — even a simple one deeming the earn-out earned at the trailing-twelve-month EBITDA run rate immediately before a change of control of the acquired business — would have converted an uncertain settlement negotiation into a defined, calculable payment obligation the buyer could not avoid simply by selling. Sophisticated buyers routinely accept this kind of clause because it is priced into the deal at signing rather than fought over after the fact; the absence of one here was not a negotiating loss so much as an oversight in a purchase agreement built around the conventional earn-out dispute and not this one.
The tell was that every protection in the earn-out article assumed the buyer would still be operating the business at the end of it. The audit right, the ordinary-course covenant, the anti-manipulation language — all of it presumes a live, ongoing operation to inspect and constrain. A seller’s counsel who asks, at drafting, “what if the buyer simply stops owning this?” is asking a structural question an operating covenant cannot answer, which is exactly why it needs its own clause.
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