Protecting a Minority Stake When the Price Depends on an Earn-Out

The situation

Priya, a specialist physician, and Andriy, a dentist who owned his own practice, had each put money into a multi-location medical services company years earlier, taking a combined minority stake alongside a founder who ran the business day to day. When the founder found a buyer — a larger healthcare group looking to expand into the region — Priya and Andriy were included as selling shareholders under the company's shareholder agreement, which gave the majority holder the right to force a sale that minority holders had to join.

The deal, once the term sheet came together, was worth roughly $65 million. About $45 million would be paid in cash at closing. The remaining $20 million was structured as an earn-out — additional payments made over the two years after closing, tied to the company hitting agreed earnings targets. Earn-outs are common when a buyer and seller disagree on what a business is worth going forward: the buyer pays a base price now and more later, only if the business performs. Priya and Andriy together held about 18% of the company, which meant their share of that earn-out pool was worth roughly $3.6 million on top of their piece of the closing payment.

The founder's lawyers were driving the deal timeline and had already exchanged several drafts with the buyer's negotiator, Bohdan, before Priya and Andriy came to Treadstone Law. They had one specific worry: nothing in the draft agreement said how the buyer had to run the business during the earn-out period. The founder, as the largest seller, was staying on as an executive and seemed satisfied with the buyer's informal assurances. Priya and Andriy, holding a much smaller stake and no operating role after closing, had no such assurances and no seat at the table once the deal closed.

What the draft agreement was missing

An earn-out only pays what the underlying numbers say it pays. That creates an obvious incentive problem: once the buyer owns the company outright, it controls every decision that feeds those numbers — marketing spend, referral relationships, staffing, pricing, which locations get investment and which get wound down. A buyer under no obligation to keep running the business the way it was run before closing can, intentionally or not, suppress the very metrics the earn-out is measured against.

The draft agreement Priya and Andriy brought in had an earn-out formula but almost nothing governing the buyer's conduct in between. There was no requirement to maintain marketing or advertising spend at historical levels. There was no restriction on diverting patient referrals to other locations the buyer already owned elsewhere in the province. There was no obligation to keep the company's existing management structure or clinical staff in place, and no right for the sellers to see financial reporting during the earn-out period beyond a single reconciliation statement at the end.

This is a known pressure point in earn-out deals, and it is exactly where sellers with a minority stake are most exposed. A majority seller who stays on as an executive has some practical leverage — they are in the room, they can raise concerns as they arise, and their ongoing employment often gives them informal influence over budgets. A minority seller who exits entirely at closing has none of that. Their only protection is whatever the agreement says in writing, and this draft said very little. Left as drafted, Priya and Andriy's $3.6 million earn-out exposure depended entirely on the buyer's goodwill.

There was a second problem layered on top. Because the founder's lawyers were negotiating the master agreement and Priya and Andriy were joining under the shareholder agreement's drag-along mechanism — a clause that lets a majority seller compel minority holders to sell on the same terms — there was a real risk that operating covenants meaningful to a minority holder would simply never get raised, because the majority seller did not need them for his own protection.

What we did

1. Identified the specific metrics the earn-out actually depended on. Rather than asking for broad, hard-to-enforce promises about "good faith operation," we reviewed the company's financials to determine which line items most directly drove the earnings targets — advertising spend, referral volume from two affiliated clinics, and retention of the senior clinical staff who generated the bulk of the company's billings.
2. Drafted targeted operating covenants tied to those metrics. We proposed specific, measurable commitments for the earn-out period: minimum marketing spend as a percentage of revenue, a non-diversion clause preventing the buyer from redirecting referrals to its other locations, and a requirement to make reasonable efforts to retain named senior staff, with defined consequences if key staff left within the first year.
3. Negotiated quarterly financial reporting rights. A single reconciliation statement at the end of two years gives a minority seller no ability to catch a problem while it can still be fixed. We pushed for quarterly reporting against the earn-out targets, with a right to raise disputes as they arose rather than after the fact.
4. Built in an independent dispute mechanism. We proposed that any disagreement over whether the buyer had complied with the operating covenants, or over the earn-out calculation itself, go to a neutral accountant for a binding determination rather than requiring Priya and Andriy to commence litigation for a $3.6 million dispute against a much larger, better-resourced buyer.
5. Coordinated with, rather than against, the founder's counsel. Because the founder's lawyers were leading the negotiation, we worked to have several of these protections folded into the master agreement so they benefited all sellers, not just our clients — this made them easier for the buyer to accept, since Bohdan was not negotiating two separate sets of terms.
6. Advised on what to accept if full protection wasn't available. Not every point was winnable. We prepared Priya and Andriy for the realistic possibility that the buyer would resist giving up operating control entirely, and helped them decide in advance which protections were essential and which were negotiable.

The outcome

The negotiation with Bohdan took about six weeks and produced a genuine compromise rather than a clean win. The buyer agreed to the minimum marketing spend commitment, the non-diversion clause on referrals, and quarterly reporting against the earn-out targets — the three protections most directly tied to the numbers Priya and Andriy's payout depended on. The buyer also accepted the independent accountant dispute mechanism, which meant any future disagreement would be resolved by a neutral expert rather than a lawsuit.

Where the buyer held firm was on staffing and budget control more broadly. It refused to give sellers any right to approve or object to staffing changes beyond the two named senior clinicians, and it declined a general covenant requiring it to operate the business "consistent with past practice" — language buyers commonly resist because it is vague and hard for them to plan around. The founder's counsel, satisfied with the deal overall and eager to close, did not push hard on these points once the metric-specific covenants were in place, and Priya and Andriy ultimately accepted that outcome rather than risk delaying or derailing a deal the majority shareholder was determined to complete.

The deal closed with the $45 million cash payment on schedule. The earn-out period is now running under an agreement that gives Priya and Andriy real visibility and enforceable protection on the factors most likely to move the numbers, plus a fast, affordable way to resolve disputes if the buyer falls short — but it does not give them a veto over how the company is run day to day. That is a real trade-off, not a full victory, and it reflects the leverage two minority holders actually had in a deal being driven by someone else's exit.

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