Earnouts - Bridging the Gap : Informational asymmetry and negotiation duration in earnout transactions

Abstract

In this thesis, we look into earnout provisions. We contribute to answering two questions: when earnouts are employed and why they are not more common. By considering asymmetric information in new ways, we augment the understanding of informational asymmetry as an earnout determinant. Our thesis further innovates on existing research by providing evidence on the costs of employing earnouts. The evidence we present is consistent with asymmetric information regarding the target being a primary determinant of earnout employment. We find that acquirer M&A experience is negatively associated with earnouts, which provides evidence that is consistent with reduced informational asymmetry being associated with a lower probability of including earnout provisions in the consideration. Our thesis contributes to establishing a relationship between investment bank involvement, both on a deal- and firm-level, and the probability of earnout incidence. We find evidence consistent with target investment bank involvement being associated with a lower probability of including earnouts. We find no corresponding evidence on the association between the acquirer’s investment bank engagement and earnout provisions. Our findings substantiate previous research on informational asymmetry and provide evidence on the coherence between investment bank involvement and the level of asymmetric information in a deal regarding both target and acquirer. Furthermore, we collect data and provide evidence on the background of public earnout transactions. Our findings suggest that these transactions are associated with a substantially longer private duration and a higher degree of informational asymmetry revolving around the target.