Definition - What does Deferred Consideration mean?
Deferred consideration is a portion of the purchase price that is payable by the buyer in the future, after closing. Purchase price is negotiated on the basis of a fair market value of the target firm. The actual amount of consideration in all forms is determined and the terms of payment are decided.
A variety of factors influence the actual negotiated price. Payment may be in the form of cash, debt, assumption or payment of liabilities, stocks, or future payouts. There will be a payment up front in the form of equity in the buying firm or a promise to pay cash depending on the achievement of profit targets or turnover targets. Future payments are agreed upon for the following issues:
Form of payment
Restrictive and affirmative covenants
Deferred consideration allows the purchaser to defer the acquisition cost. In periods of poor liquidity, a deferred consideration system helps to get the deal through. However, the seller faces a risk and tries to secure a high upfront payment, sometimes even in exchange for a reduced price. A seller may seek a bank guarantee or collateral whereby no assignation can take place without the seller's consent. Sometimes deferred consideration may be set off by the buyer against indemnities payable by the seller. If the consideration is contingent to certain conditions being met before payment can be made, then the parties agree to a mechanism for payment. The funds may be placed in an account and released as per the terms agreed. Sellers have a vested interest in the firm in the future in the form of deferred or contingent payment.