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Deferred consideration insurance can be structured around the various earn out formulas but this can only be written in a specific way.
Where an element of the deferred consideration is based on an earn out, ie additional cash consideration due on a fully contingent basis set against an agreed performance criteria, there is no actual contracted indebtedness between the Purchaser and the Vendor at completion. This derives at a later date.
The insurance cannot ‘plug’ the profit or turnover gap should the purchaser fail to achieve the performance triggers for further consideration to be due. However, it can protect the Vendor after the performance triggers have been achieved and the money is then due.
The insurance can only trigger and become live once the agreed performance thresholds have been achieved and the Earn-Out formula calculated, therefore creating a contracted debt between the two parties.
Should the Purchaser then fail to pay the Vendor, the underwriter can pay the Vendor on behalf of the Purchaser in the normal way.
This is minimal risk for the underwriters as the Purchaser has achieved the Earn-Out thresholds and therefore is being successful. In addition, if the Purchaser has achieved the Earn-Out thresholds then the monies due should already be in the business so should easily be paid to the Vendor.
However, it is still possible that the Purchaser achieves the Earn-Out formula but does not have the cash to pay it.
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