Earn-outs and deferred consideration across borders

A deal that closes on day one rarely pays in full on day one. For cross-border acquisitions structured through Hong Kong or an offshore holding centre, the earn-out or deferred-consideration mechanism is often the device that bridges valuation disagreement between a buyer in one jurisdiction and a seller in another. The commercial logic is straightforward. The legal execution is not.

Earn-outs and deferred consideration in cross-border M&A require precise alignment of the governing law, the enforcement forum, the measurement mechanics, and the payment-vehicle structure – all before the transaction documents are signed. Under the regime that governs Hong Kong-seated arrangements, the choice of governing law and dispute-resolution clause in the sale and purchase agreement is the single most consequential drafting decision a buyer or seller makes.

This page sets out how Lockhart & Yip structures and advises on earn-out and deferred-consideration arrangements across borders, the step-by-step route our desk runs, and the documents and decisions the client must own at each stage.

When does the cross-border earn-out question arise?

The earn-out question crystallises at the moment valuations diverge and the parties want to close anyway. A buyer acquiring a Greater China operating business through a BVI or Cayman holding structure cannot rely solely on the target's audited history. A seller who believes the business will outperform the buyer's model will not accept the buyer's number as final. The earn-out is the mechanism that lets both principals proceed.

In our cross-border practice, the trigger typically arrives in one of three configurations. First: a foreign principal – a European, Middle Eastern or CIS group – acquires a Hong Kong or Mainland-connected target and needs the seller to remain in the business for a defined performance period. Second: a Hong Kong-listed or Hong Kong-based acquirer buys into a Southeast Asian or South Asian operating company where historical financials carry uncertainty. Third: a founder exit from a technology or life-sciences business where milestones, not reported earnings, define the consideration tail.

Each configuration raises a distinct set of cross-border questions. Which set of accounts governs the earn-out calculation? Which accounting standard applies – and in which entity? Who audits the earn-out accounts? Where does the deferred payment sit, and what happens to it if a dispute arises during the measurement period? The answers to these questions must be locked into the sale and purchase agreement before the deal closes, not negotiated after.

For foreign principals approaching the Hong Kong market or routing a cross-border deal through Hong Kong as hub, the window to negotiate earn-out mechanics closes with the signing of the sale and purchase agreement. That is the structural urgency our desk addresses.

How is a cross-border earn-out structured through Hong Kong?

A cross-border earn-out structured through Hong Kong sits at the intersection of corporate law, governing-law selection, dispute-resolution design, and tax positioning – none of which can be treated independently. The vehicle that holds the earn-out obligation, the law that governs the calculation, and the forum that resolves any dispute about it must be chosen as a coordinated set.

The sale and purchase agreement is governed by a chosen law – typically English law or Hong Kong law for deals with a Hong Kong nexus. The earn-out schedule is a schedule to that agreement. It defines the earn-out period, the earn-out metric (commonly EBITDA, revenue, or a milestone event), the earn-out accounts preparation process, the review and dispute procedure, and the payment mechanism. Each element has cross-border implications.

Where the target operates on the Mainland, the earn-out metric must reconcile with the accounting standards applicable to the operating entity. Mainland entities prepare accounts under PRC GAAP (Chinese Accounting Standards, the accounting standards issued by the Ministry of Finance for domestic entities). The sale and purchase agreement must specify whether the earn-out calculation runs on PRC GAAP, IFRS, or a defined conversion methodology. A failure to specify this point precisely is one of the most common sources of earn-out disputes we see on cross-border Greater China deals.

The holding structure matters equally. Where consideration flows through a BVI or Cayman intermediate holdco – which is the standard architecture for most Hong Kong-connected M&A – the earn-out obligation sits in the acquisition agreement at the holdco level. The payment mechanics, the escrow or retention account, and any security over the deferred consideration must be documented at the correct entity level in the chain. In our cross-border practice, we model the structure top-to-bottom before the first draft of the sale and purchase agreement is circulated.

What is the step-by-step route our desk runs?

The engagement runs in four stages, each with a defined set of deliverables and a defined point at which locally licensed Hong Kong counsel join the process.

Stage 1: Structural design. We establish the deal perimeter – which entities are in scope, which jurisdictions are engaged, and which governing-law and forum options are available to the parties. We model the earn-out structure against the holding chain, identify the accounting-standard interface, and advise on the dispute-resolution architecture. Where the structure involves a Mainland operating entity, we coordinate with allied counsel admitted in the People's Republic of China. Where it involves a BVI or Cayman holdco, we coordinate with offshore counsel in the relevant jurisdiction. Locally licensed Hong Kong firms join at this stage for any element that engages Hong Kong company law or Hong Kong regulatory requirements.

Stage 2: Document preparation. We prepare or review the earn-out schedule and the principal transaction documents – the sale and purchase agreement, the shareholders' agreement or investment agreement where applicable, and any escrow or retention mechanics. The earn-out schedule is the document that will govern a multi-year relationship between buyer and seller, often after the relationship has become adversarial. Every ambiguity in the metric definition, the accounts-preparation process, or the dispute procedure will be exploited in a future dispute. Our desk drafts these provisions with enforcement in mind from the outset.

Stage 3: Regulatory and tax clearance. Cross-border acquisitions through Hong Kong require attention to several clearance points. Where the target is a Hong Kong-incorporated entity, relevant filings with the Companies Registry are required. Where the deal involves a Mainland operating entity, foreign-investment approvals and registration requirements under the applicable Mainland regulatory regime apply. Where the transaction has a stamp-duty dimension – for example, a transfer of Hong Kong stock – ad valorem stamp duty of 0.1% per party (0.2% in total) applies on the higher of consideration or value, and the treatment of deferred consideration in the stamp-duty computation requires careful attention. Tax positioning for the earn-out payments across the relevant jurisdictions is coordinated with our tax desk.

Stage 4: Closing and post-closing. We manage the closing mechanics, including any escrow release conditions, and prepare the earn-out accounts monitoring framework. Where the earn-out period runs for more than one year – as it commonly does – we establish the governance process that will operate between the parties during the measurement period. This includes the information-rights regime, the buyer-conduct restrictions (which limit the buyer's ability to manage the business in a way that artificially depresses the earn-out metric), and the dispute-escalation procedure.

The sequence above describes the standard position. Your matter turns on the documents, the jurisdictions actually engaged, and the order of steps – which is where the route is won or lost. For a structured assessment of your earn-out or deferred-consideration arrangement across the relevant jurisdictions, write to us at info@lockhartyip.com.

What is the cross-border interface and where does it matter most?

The cross-border interface in an earn-out arrangement is the point at which the chosen governing law, the operating entity's jurisdiction, and the enforcement forum must align – because misalignment is where earn-out disputes become earn-out litigation. Hong Kong functions in this structure as forum, as hub for the holding vehicle, and as the seat of any arbitration arising from the earn-out mechanics.

Consider the interface between a Hong Kong-law sale and purchase agreement and a Mainland operating entity. The earn-out metric is defined by reference to the target group's consolidated financial performance. The target group's principal operating entity prepares accounts under PRC GAAP in renminbi. The earn-out schedule, if it is drafted without explicit currency-conversion provisions, creates an immediate ambiguity: which exchange rate applies, at which date, and on whose determination? A sale and purchase agreement that is silent on this point will not survive the first earn-out accounts dispute.

The enforcement point is equally consequential. An earn-out obligation is a contractual debt. If the buyer fails to pay after the earn-out accounts are finalised and any dispute procedure has concluded, the seller needs an enforcement route. For cross-border deals with a Hong Kong nexus, the arbitration clause is the correct mechanism. A Hong Kong-seated arbitration award, made under the Arbitration Ordinance (Cap. 609) and the HKIAC Administered Arbitration Rules, is enforceable in the Mainland under the Arrangement Concerning Mutual Enforcement of Arbitral Awards between the Mainland and the Hong Kong Special Administrative Region and its supplemental arrangement. The interim-measures arrangement has been in effect since 1 October 2019, allowing parties to a Hong Kong-seated arbitration to seek interim relief from Mainland courts before or during the arbitration – a significant tool for securing assets during an earn-out dispute before the final award.

For deals where the counterparty or the assets are outside the Mainland – in Singapore, the UAE, or a European jurisdiction – the New York Convention provides the enforcement route for Hong Kong-seated arbitration awards. Hong Kong is a New York Convention jurisdiction. The choice of Hong Kong as arbitral seat therefore gives the award-creditor access to enforcement in over 170 contracting states.

Where buyer conduct during the earn-out period is in dispute – a common fact pattern in our cross-border practice – the interim-measures mechanism is the tool that preserves the position pending a final determination. We regularly advise on the sequencing of interim-measures applications alongside the substantive arbitration proceedings.

What documents and decisions does the client own?

The client's ownership of the earn-out arrangement is defined by three document sets and three decisions that cannot be delegated to counsel.

Document set one: the sale and purchase agreement and earn-out schedule. These are the governing instruments. The earn-out schedule defines the metric, the accounts-preparation process, the review period, the dispute mechanism, and the payment date. Every defined term in the schedule must be reviewed by the client's finance team alongside counsel. The client's accounting team must confirm that the earn-out metric can be extracted from the management information system of the target group in the agreed form, at the agreed frequency, without requiring the buyer to create new reporting infrastructure that it then controls.

Document set two: the escrow or retention arrangement. Where deferred consideration is held in escrow pending the earn-out determination, the escrow agreement governs the release conditions, the governing law of the escrow itself, and the identity and jurisdiction of the escrow agent. For cross-border deals through Hong Kong, the escrow arrangement is typically governed by Hong Kong law and operated through a Hong Kong-licensed financial institution. The client must confirm that the escrow release conditions are drafted to align precisely with the earn-out payment trigger in the sale and purchase agreement.

Document set three: the information-rights and buyer-conduct regime. This is the document set that most directly governs the commercial relationship during the earn-out period. The information-rights provisions determine what financial data the seller receives, at what frequency, and in what format. The buyer-conduct restrictions – sometimes called anti-sandbagging provisions (contractual protections preventing the buyer from taking actions that artificially affect the earn-out metric) – define the scope of the buyer's management discretion during the earn-out period. These provisions must be drafted with specificity. A general obligation not to "materially adversely affect" the earn-out is not a buyer-conduct restriction. It is an invitation to dispute.

The three decisions the client must own are: the choice of earn-out metric; the choice of governing law and arbitral seat; and the identity of the accountants who will prepare and review the earn-out accounts. Each of these decisions has cross-border implications that counsel can model but cannot make. The client's finance team, in-house legal team, and principal decision-makers must be aligned on all three before the term sheet is finalised.

If an earlier filing, structure or enforcement attempt produced an adverse or stalled result, a second read can identify the strategic error and the routes still open. Write to us at info@lockhartyip.com to discuss.

What does the earn-out dispute look like – and how does the dispute architecture prevent it?

Earn-out disputes follow a predictable pattern. The buyer prepares the earn-out accounts. The seller disagrees with the computation. The disagreement is usually not about arithmetic – it is about which revenues or costs are included in the metric, whether a discretionary management decision by the buyer during the measurement period was a breach of the buyer-conduct restrictions, or whether an accounting policy change in the target group's reporting invalidates the comparison with the base-year figures. These are disputes about drafting, not numbers.

The correct architecture prevents most of them. A well-drafted earn-out schedule defines the metric by reference to a specific, identified set of accounting policies, names the applicable accounting standard, specifies who prepares the accounts and on what timeline, sets a defined review period for the seller, establishes a mechanism for escalation to a third-party accountant as expert determiner for accounting disputes, and reserves the arbitration clause for legal disputes about the agreement's interpretation. The expert-determination mechanism for accounting disputes is faster and cheaper than arbitration. But it must be carved out of the arbitration clause correctly – a drafting error that leaves accounting disputes inside the arbitration clause, or legal disputes outside it, creates procedural confusion at the worst possible moment.

A micro-scenario from our practice illustrates the point. A European industrial group acquiring a Hong Kong-connected manufacturing target (late 2025) structured a three-year earn-out based on EBITDA. The earn-out schedule did not specify whether EBITDA was measured before or after management charges allocated from the buyer group to the target. By the end of the first measurement year, the buyer had introduced a group-level management charge that reduced the target's EBITDA by a material amount. The seller challenged the charge as a breach of the buyer-conduct restrictions. The dispute went to arbitration because the earn-out schedule did not include an expert-determination mechanism for this type of accounting question. We were engaged after the arbitration was filed. The structural issue – the absence of a defined management-charge treatment and a carve-out to expert determination – was entirely preventable at the drafting stage.

What do foreign principals most often get wrong?

Foreign principals – particularly those approaching Hong Kong-connected M&A without a permanent local advisory relationship – make a consistent set of errors in earn-out design. Understanding these errors is the fastest way to avoid them.

The metric-extraction problem. A buyer who agrees to an EBITDA-based earn-out without confirming that the target's management information system can generate EBITDA on a consistent basis, at the agreed frequency, in the agreed currency, has agreed to a metric it cannot administer. In our cross-border practice, we require the client's finance team to sign off on the metric-extraction feasibility before the earn-out schedule is finalised.

The governing-law mismatch. A sale and purchase agreement governed by English law, covering a target group that operates under PRC law, with an earn-out paid through a BVI holdco, creates a three-system interface. The earn-out obligation is governed by English law. The operating entity's accounts are prepared under PRC GAAP. The holdco's capacity to make the payment is governed by BVI company law. Each layer must be checked. A BVI holdco that is prohibited from making a distribution at the relevant time – because its net assets do not support it under the applicable BVI solvency test – cannot lawfully pay the earn-out, regardless of what the sale and purchase agreement says.

The forum-selection error. Foreign principals sometimes choose the courts of their home jurisdiction as the dispute-resolution forum for a Hong Kong-connected earn-out. This is an error. A judgment from a court that has no enforcement route into the jurisdictions where the buyer's assets sit is a judgment on paper. For Greater China-connected earn-outs, a Hong Kong-seated arbitration award is almost always the correct instrument. It has enforcement routes across the Mainland via the Mutual Enforcement Arrangements and across the major offshore and international centres via the New York Convention.

The tax afterthought. Earn-out payments are not tax-neutral. The character of the payment – whether it is a second tranche of capital consideration or a performance-linked remuneration – affects the tax treatment in the seller's jurisdiction, the buyer's jurisdiction, and potentially the target group's jurisdiction. This analysis must be run before the sale and purchase agreement is signed. A restructuring of the earn-out after closing to fix an adverse tax outcome is expensive, often not possible, and occasionally not permissible under the applicable anti-avoidance rules.

Decision matrix: earn-out configuration and the route it requires

The correct earn-out structure depends on the configuration of the deal. The matrix below describes the principal configurations our desk sees on cross-border Greater China transactions and the route each requires.

Configuration A: Hong Kong-listed or Hong Kong-incorporated acquirer; Mainland operating target; earn-out based on PRC GAAP EBITDA. Route: sale and purchase agreement governed by Hong Kong law; earn-out schedule with a defined PRC GAAP-to-HKFRS reconciliation methodology or an explicit PRC GAAP metric; expert-determination mechanism for accounting disputes; arbitration clause (Hong Kong seat, HKIAC Rules) for legal disputes; Mainland regulatory approvals for the target shareholding transfer; stamp-duty analysis for any Hong Kong stock element. Timing: regulatory clearance timelines on the Mainland side drive the critical path.

Configuration B: Foreign principal (European/Middle Eastern/CIS); target group held through BVI holdco above a Hong Kong opco; earn-out based on revenue. Route: sale and purchase agreement governed by English law or Hong Kong law; BVI share transfer documentation; earn-out schedule with a revenue definition that excludes intercompany transactions; buyer-conduct restrictions on revenue allocation between group entities; escrow arrangement for the deferred consideration under Hong Kong law; Hong Kong-seated arbitration clause. BVI solvency position for earn-out payments must be verified at the relevant payment date.

Configuration C: Founder exit from a Hong Kong technology or life-sciences business; earn-out based on milestone events (regulatory approval, product launch, revenue threshold). Route: sale and purchase agreement with a milestone schedule that defines each event with objective, third-party-verifiable criteria; separate dispute mechanism for milestone-occurrence disputes (expert determination where the milestone is a technical or scientific question; arbitration where it is a contractual interpretation question); Hong Kong-seated arbitration for all legal disputes. Milestone earn-outs require particular attention to the buyer's obligations during the milestone period – a buyer who controls the regulatory-submission timeline can delay the milestone indefinitely unless the buyer-conduct regime addresses this specifically.

Self-assessment checklist before instruction

Before engaging cross-border counsel on an earn-out or deferred-consideration arrangement, the principal or in-house team should be able to answer the following questions. Where the answer is unclear, that is the instruction point.

• Has the earn-out metric been confirmed as extractable from the target's management information system, in the agreed currency, at the agreed frequency?
• Is the applicable accounting standard specified in the draft earn-out schedule – and has the target's accounting team confirmed it?
• Has the governing law of the sale and purchase agreement been selected, and is it consistent with the forum chosen for dispute resolution?
• Has a Hong Kong-seated arbitration clause been included, and has the interaction between the arbitration clause and any expert-determination mechanism been verified?
• Has the BVI or Cayman holdco's capacity to make earn-out payments been confirmed under the applicable solvency and distribution tests?
• Has the stamp-duty treatment of deferred consideration been analysed for any Hong Kong stock element in the transaction?
• Has the tax treatment of earn-out payments been confirmed in each relevant jurisdiction before the sale and purchase agreement is signed?
• Are the buyer-conduct restrictions in the earn-out schedule sufficiently specific to address the buyer's management discretion during the measurement period?
• Has the information-rights regime been agreed, including the format, frequency, and currency of the earn-out accounts?
• Has the Mainland regulatory approval process, where applicable, been mapped against the deal timeline?

A "no" or "unclear" answer to any of the above is a structuring risk that will be cheaper to address before signing than after. Our desk reviews earn-out arrangements at any stage of the transaction lifecycle – at term-sheet stage, at the draft-agreement stage, or after a dispute has arisen.

Related practices

• M&A & Transactions – cross-border acquisition structuring, due diligence and transaction documents
• Disputes & Arbitration – Hong Kong-seated arbitration, enforcement and interim measures across the Mainland and offshore
• Tax Positions – FSIE, Pillar Two, and cross-border tax positioning for M&A structures

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This publication is general information and does not constitute legal advice. For advice on your situation, contact info@lockhartyip.com.