FA-301g · Module 3

Risk Mitigation Structures

3 min read

Due diligence identifies risks. Deal structure mitigates them. Earnouts address revenue uncertainty. Escrows address hidden liabilities. Representations and warranties address disclosure completeness. Each structural element is a financial mechanism that allocates risk between buyer and seller. The deal structure should mirror the risk profile: the more uncertainty uncovered in diligence, the more risk should be allocated to the seller through structural protections.

Deal Structure — Risk-Adjusted:
──────────────────────────────────────────────────────
Purchase Price:                    $90,000,000
──────────────────────────────────────────────────────
Component        Amount    Contingency
──────────────────────────────────────────────────────
Cash at close    $65M     Unconditional
Escrow holdback   $8M     Released at 18 months
                          if no claims filed
Earnout — Year 1  $9M     Paid if NRR > 100%
Earnout — Year 2  $8M     Paid if revenue > $18M
──────────────────────────────────────────────────────

Risk allocation:
  Hidden liabilities: $8M escrow covers up to
  9% of purchase price
  Revenue risk: $17M (19%) contingent on
  actual performance metrics
  Seller receives full price only if the
  business performs as represented.

Do This

Match structural protections to the specific risks identified in diligence
Set earnout metrics that are measurable, auditable, and within the seller's influence
Size the escrow to cover the quantified hidden liability exposure plus a 25% buffer

Avoid This

Use generic deal structures without connecting them to diligence findings
Set earnout metrics the buyer can manipulate (like EBITDA after the buyer controls expenses)
Skip the escrow because "the seller seemed trustworthy" — trust is not a financial mechanism