Earn-Outs, Escrow & Deferred Payment

1. Why the Headline Is Not the Number

You agree R40 million. You picture R40 million arriving. It is worth working out, early and on paper, what actually lands on closing day, because on a lot of deals it is a good deal less than the headline — and the gap is not a trick played on you at the last minute. It is built into the structure you agreed months earlier.

Start from where the price mechanism leaves off. As explained in our guide to how the price is actually calculated, the R40 million headline becomes R38 million for your shares once cash and debt are settled. From there, three things commonly hold money back:

Each of the three is legitimate, common, and often the thing that gets the deal done. Each also changes what your sale is actually worth, and when. This page takes them one at a time, then puts the numbers together for the worked R40 million example.

2. Escrow, or Retention

An agreed slice of the price is not paid to you on the day. It goes into an account controlled by someone independent — an escrow agent, a bank, or most commonly in South Africa the trust account of an attorney acting for both sides. It sits there for an agreed period. If the buyer makes a warranty claim during that period and it succeeds, they take it out of that money. Whatever is left comes to you at the end.

What it does for the buyer is obvious, and it is not unreasonable. Without it, their protection is a promise from a person who has taken the money and may well have used it. A fund they can actually reach is worth far more than a right to sue you in two years’ time.

What it costs you is the use of a large amount of your own money. On a R38 million sale, an escrow of around 10% is typical where there is no insurance in place, so about R3.8 million, usually held for 18 to 24 months to match the period during which the buyer can bring warranty claims. That is R3.8 million you cannot put into a property, a bond, or the next thing you want to do. At around 8%, the interest alone over 18 months is roughly R450,000 — which is precisely why who earns the interest is worth negotiating rather than nodding through.

Three things about escrow worth your attention

3. Earn-Outs

An earn-out is part of the price paid later, and only if the business performs. You get R30 million now and up to R8 million more over the next two years if profit hits agreed levels.

The appeal is real. You think the business is worth R45 million because of the contracts you are about to sign. The buyer thinks it is worth R35 million because those contracts do not exist yet. An earn-out bridges that gap by letting the actual result decide. Where the buyer has limited cash, or where they need you to stay and keep things together, it can be the only structure that gets the deal done.

Now the honest part. An earn-out measures you on performance you no longer control. From closing day the buyer owns the levers, and every one of them moves your number:

Earn-outs generate more disputes after closing than any other part of a sale. If you use one, the protections that matter are these:

And one more: if the buyer is a newly formed company with no assets, get its parent to stand behind the payment. A promise from a shell is not a payment plan.

4. Deferred Consideration

The simplest of the three: part of the price is just paid later, on stated dates, with no performance conditions. R32 million on closing, R6 million on the first anniversary. It usually happens because the buyer’s funding is staged, not because anyone is trying to shift risk.

There is nothing wrong with it, and the only question that matters is what secures it. An unsecured promise from a company you no longer own is worth exactly what that company is worth when the date arrives. The usual answers:

Whichever you use, agree interest on the outstanding amount, and agree a default rate if payment is late.

5. The Three Structures Compared

The table below puts the three holdback structures side by side — what each one is for, what it costs you, and the protection that matters most in each case.

If you are selling alongside other shareholders, how these holdbacks are shared — who bears the escrow, whose earn-out it is — is a further negotiation of its own. See our page on selling with co-shareholders.

6. Work Out Your Day-One Number First

Put the pieces together for the worked example and the arithmetic is sobering:

That is 66% of the headline. It may still be a very good deal — but it is a different deal from the one in your head, and it is a completely different deal if you have already committed the proceeds to a property purchase in November.

Two more things come off that R26.2 million, and neither waits for the escrow. Your capital gains tax is worked out on the price for your shares, not on the cash that reached your account: on a R38 million share price with a base cost of R2 million, that is a bill of roughly R6.5 million. And your advisor fees, which on a deal this size are real money, are payable regardless of what the earn-out eventually does.

So do the arithmetic before you agree the headline number, not after.

7. The Honest Question

Then answer one honest question about each deferred piece: would you be genuinely willing to lose it? If the R8 million earn-out disappearing would be disappointing but survivable, an earn-out is a reasonable risk to take. If your retirement depends on it, you are not selling for R40 million. You are selling for R26 million and buying a lottery ticket.