LSHC Horizons Brochure 2024 - Flipbook - Page 48
Hogan Lovells | 2024 Life Sciences and Health Care Horizons | Transactions
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Valuation: Bridging gaps with earnouts
Earnouts remain a common device to bridge
valuation gaps in private M&A transactions,
particularly in the life sciences and health care
sector where there are inherent challenges in
assessing the viability of the long development
cycles required to bring therapies, devices, and
other technologies to market. An earnout in
a purchase agreement contractually requires
a buyer to make additional – sometimes
substantial – contingent payment(s) if certain
specified events or performance targets are
met post-closing (such as patient enrollment
or data milestones, regulatory submissions or
approvals, or drug indication milestones).
With high stakes, earnouts often lead to postclosing disputes and litigation. While disputes
may arise on the basis of any number of reasons
(e.g., earnout metrics, drafting ambiguity,
accounting principles, etc.), the buyer’s
obligations with respect to the operation of the
acquired business during the earnout period,
including the level of efforts required to achieve
the earnout targets, is a prime cause for dispute
and therefore a critical point of negotiation.
While the applicable law governing the
purchase agreement will influence the earnout
provisions and their interpretation and
enforceability, there are a number of universal
practice points that buyers and sellers should
consider when negotiating earnouts, including:
Alex Aber
Partner
Boston
Clear, detailed drafting. Whether the buyer
may operate the acquired business in its sole
and absolute discretion or has agreed to a
general level of efforts or specific actions that
it must take during the earnout period, both
buyers and sellers can benefit from explicit,
unambiguous contract language. Parties are
ill-advised to rely on implied covenants and
imprecise drafting.
Target specific metrics. Milestone language
should be drafted in concert by lawyers and
business people with deep knowledge and
expertise about the target company and its
operations and industry in order to fashion
meaningful, specific milestones that are
less prone to manipulation or subjective
interpretation after the fact.
Anticipate disputes. By their nature,
earnout provisions get reviewed and tested
after the closing – sometimes by parties who
were not involved in or familiar with the
negotiation of the acquisition – so contract
provisions can often benefit by a final, presigning review by litigators to ensure clarity.
Consider contingencies. The buyer’s
business is not static and fixed in time at the
point of closing, so the parties should consider
and provide for the possibility of post-closing
changes in control (both with respect to the
buyer as a whole and the target company
assets individually), the buyer’s acquisition
of competitive assets (which could divert
resources and attention away from the target’s
business), and changes in applicable law,
among other events.
Adrienne Ellman
Partner
New York, Boston
Compliance and reporting. Thoughtful
acquisition agreements include information
rights and periodic reporting of post-closing
performance in order to avoid disappointing
surprises, and efficient dispute resolution
mechanics.
