Earnouts in Mergers: Agreeing to Disagree and Agreeing to Stay
Posted: 9 Jul 2000
We examine a large sample of mergers involving earnout payments made by bidders to target shareholders. Our findings suggest that earnouts serve two non-mutually-exclusive functions: as risk reduction mechanisms against misvaluation of high asymmetric information targets, and as retention bonuses for target human capital in mergers with feasible contract implementation. Around the merger announcement, bidder shareholders show significant positive responses, which are not reversed over the subsequent 3 years. In the postmerger period, the frequency of earnout payment and the percentage of target managers staying beyond the earnout period are high, supporting the use of earnouts as retention bonuses.
JEL Classification: G34
Suggested Citation: Suggested Citation