Summary
- Deferred consideration lets a buyer pay part of the purchase price after completion, either as fixed instalments or as an earn-out linked to performance.
- A seller with deferred consideration ranks as an unsecured creditor, so acceleration, default interest and security clauses carry the protection.
- The buyer controls the business during an earn-out period, so protective covenants and defined accounting policies decide whether the earn-out pays out.
- This article explains deferred payments in share sales for business leaders in England and Wales.
- LegalVision’s business sale and purchase lawyers advise sellers on negotiating deferred payment terms, setting earn-out targets and accounting policies, and taking security over the outstanding amount.
Tips for Businesses
Agree the payment dates, amounts and security at the heads of terms stage, not during drafting. Ask for an escrow account where the buyer resists giving security. Name an independent accountant in the agreement to resolve earn-out account disputes. Speak to a business sale and purchase lawyer at LegalVision about setting the earn-out targets and the accounting policies behind them.
Deferred consideration in a UK share sale means the buyer pays part of the purchase price after completion. The payment may be a fixed sum on a set date, a series of instalments, or an earn-out linked to performance. Deferred consideration shifts risk from the buyer to the seller, because the seller becomes an unsecured creditor for the outstanding amount. The share purchase agreement carries the protection. An acceleration clause makes every outstanding amount payable on default or insolvency. A default interest clause prices late payment. Security, such as a charge, a debenture or a parent company guarantee, backs the promise to pay. (103 words)
This article explains how deferred consideration works in a UK share sale, the clauses that protect a seller, how to structure an earn-out, and how deferred amounts affect stamp duty.
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Deciding on Your Sale Valuation and Structure
The first step in any share sale is agreeing on the valuation. You must then decide how and when the buyer will pay, whether the price is fixed or adjustable, and whether security or set-off rights apply.
Some buyers will pay the full purchase price at completion, while others may seek deferred payments or link part of the price to future performance. The appropriate structure will depend on the parties’ commercial objectives, funding and risk allocation, with tax considerations also playing an important role.
What Are Deferred Payments?
deferred or deferred payments are where the buyer pays part of the purchase price after completion, which could be a fixed amount on a future date or in instalments over an agreed period.
If the deferred amount is fixed, you must ensure that your share purchase agreement clearly states the exact payment dates and amounts. Clear drafting in your contract can help reduce the risk of payment related disputes.
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Why Use a Deferred Payment Structure?
Many sellers will prefer to receive the full purchase price at completion. However, buyers may need more flexibility.
In these situations, the parties may decide to structure payment so that part of the price is deferred. Parties will often agree on these commercial points in principle at the heads of terms stage.
The Importance of a Clear Payment Structure
Deferred consideration exposes the seller to the risk that the buyer may not make future payments. To reduce this risk, the share purchase agreement should:
- specify the total purchase price, amount payable at completion, and any deferred amounts;
- set out the payment dates, instalment amounts and payment method;
- explain how deferred payments interact with any retention or escrow arrangements;
- include an acceleration clause allowing all outstanding amounts to become immediately payable following default or insolvency;
- include a default interest clause for overdue payments; and
- where appropriate, require security, such as a charge, debenture, or parent or personal guarantee.
How Earn-Outs Work and Where They Go Wrong
An earn-out links part of the price to the business’s performance after completion. The parties pick a metric, usually turnover, gross profit or EBITDA, and a measurement period. Measurement periods often run between one and three years. The buyer pays the extra consideration only where the business hits the agreed target.
The seller loses control at completion, which is where earn-outs fail. The buyer runs the business and therefore controls the numbers the earn-out depends on. Negotiate protective covenants into the share purchase agreement. Common covenants require the buyer to run the business as a going concern. Others require separate accounts for the target company, and stop the buyer diverting customers to a group company. Define the accounting policies that measure the metric, since a change in policy can move the result. A seller who stays on to run the business through the earn-out period should agree their role and authority in writing.
Set out how the parties resolve a dispute over the earn-out accounts. An independent expert clause, naming an accountant, resolves the point faster than litigation. Your share purchase agreement should also state whether the buyer can set off a warranty claim against the earn-out payment.
“Sellers negotiate hard on the headline price and then accept the deferred structure as an afterthought, which is the wrong order. A price you might get is worth less than a smaller price you will definitely get, and the difference sits in three or four clauses at the back of the agreement. Read those clauses before you agree the number.”
Key Takeaways
Deferred consideration can help parties complete a transaction where full payment at completion is not possible. However, it changes the risk profile of the deal, particularly for the seller. Before agreeing to deferred payments, you should understand how the structure affects certainty, risk and tax, and ensure the agreement reflects those risks clearly.
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Frequently Asked Questions
What are deferred payments in a share sale?
Deferred payments mean the buyer pays part of the purchase price after completion. The buyer may pay fixed instalments on agreed dates, or link the payment to future performance through an earn-out. The seller carries the risk of non-payment until the money arrives.
Why would a buyer defer part of the purchase price?
A buyer may lack sufficient funding at completion. A buyer may also disagree with the valuation and want the final price to follow completion accounts or future performance. Deferring part of the price bridges that gap and lets the deal proceed.
What happens if a buyer defaults on a deferred payment?
An acceleration clause makes every outstanding deferred amount immediately payable on default or insolvency. A default interest clause charges interest on overdue sums. Where the seller took security, such as a charge or a guarantee, the seller can enforce it.
Do deferred payments affect stamp duty?
Yes. Stamp duty on a share transfer runs at 0.5 per cent of the consideration, and fixed deferred amounts form part of that consideration. Contingent or unascertainable consideration follows different rules, so confirm the position with a tax adviser before you sign.
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