Earn-outs in cannabis deals

When does an earn-out make sense?

When buyer and seller disagree about the future and both are partly right. Cannabis produces that disagreement often:

• A state is about to open adult-use sales, and nobody knows how much a medical dispensary’s revenue will rise.
• A store has been open eight months and its run-rate is still climbing.
• Wholesale prices are falling and the buyer will not pay for last year’s margin.
• A new competitor has a permit across the street but has not opened.
• Federal tax treatment may change. The effect of 280E relief on adult-use operators is still unresolved as of September 2026.

An earn-out lets the buyer pay for the uncertain part only if it arrives. Across all industries, SRS Acquiom found that 24% of private-target deals in 2025, excluding life sciences, included one. The same research gives sellers a warning: about one in five earn-out dollars is actually paid. Treat the earn-out as upside, not as part of the price you need.

What do real cannabis earn-outs look like?

Public filings show the terms. All three examples come from the fiscal 2025 annual report of Ascend Wellness Holdings.

Deal	Fixed price	Earn-out	Outcome disclosed
Ohio medical operator, acquired ahead of adult-use sales	$22.3 million cash	$7.3 million, payable when adult-use sales began in Ohio; sellers could choose cash or stock	Sellers chose cash; paid July 2024
Midwest adult-use dispensary, 2025	$1.667 million cash, half paid when the regulator approved an interim management agreement	3.2 times EBITDA over a specified twelve months, less the purchase price	Initial fair value $1.6 million; marked to $1.25 million at 31 Dec 2025
Second Midwest dispensary, 2025	$3.333 million cash, half paid on approval of the management agreement	Same 3.2 times EBITDA formula	Initial fair value $1.9 million; $1.54 million at 31 Dec 2025

Two lessons. First, the 3.2 times formula is a price reset, not a bonus: the seller is finally paid 3.2 times a measured year of EBITDA, with the fixed price as a floor. Second, the buyer’s own estimate of what it will pay fell by roughly a fifth within the year. Earn-out values move.

Choosing the metric

Metric	Strength	Weakness
Revenue	Verifiable against point-of-sale and track-and-trace data; hard to shift	Buyer can hit it with unprofitable discounting, so buyers resist
Gross profit	Captures price compression	Depends on inventory costing methods
EBITDA	Matches how the business was valued	Most open to dispute: overhead allocations, management fees, intercompany pricing in a vertical group
Regulatory event	Binary and objective, for example first adult-use sale, final license issued, local permit granted	Outside both parties’ control; define the event and a deadline precisely
Unit or customer counts	Simple	Rarely tracks value

For a vertically integrated buyer, fix transfer prices in the agreement. A cultivator that buys a store and then stocks it with its own product at high internal prices will depress the store’s EBITDA without intending any harm to the seller.

Illustrative earn-out

A dispensary earned $600,000 of adjusted EBITDA last year. The seller wants $2,400,000, or 4.0 times. The buyer expects a new competitor and offers $1,800,000, or 3.0 times. They agree:

• $1,800,000 at closing.
• An earn-out equal to 4.0 times EBITDA for the first twelve months after closing, less $1,800,000, capped at $600,000.

Year-one EBITDA	4.0 times EBITDA	Earn-out paid	Total price
$420,000	$1,680,000	$0	$1,800,000
$525,000	$2,100,000	$300,000	$2,100,000
$600,000	$2,400,000	$600,000	$2,400,000
$700,000	$2,800,000	$600,000 (cap)	$2,400,000

How multiples are chosen is covered on dispensary valuation multiples.

Will the regulator treat an earn-out as an ownership interest?

It can. Cannabis regulators identify owners partly by who shares in the money. Washington defines a true party of interest to include any person with a right to receive revenue, gross profit or net profit from the licensee. New York counts a person as a true party of interest when annual payments exceed the greatest of 10% of gross revenue, 50% of net profit, or $250,000. A departed seller receiving a slice of profit for three years fits those words uncomfortably well.

Practical responses:

1. Put the earn-out in the purchase agreement that is filed with the application, so it is approved as deferred price.
2. Prefer a formula that produces a fixed sum once measured, as in the examples above, over an open-ended percentage of profit.
3. Keep the measurement period short.
4. Give the seller information rights, not decision rights. A seller who can veto budgets starts to look like a controlling person.

The definitions are set out on true party of interest and financial interest rules.

Seller protections to negotiate

Courts enforce what the contract says and little more. In Lazard Technology Partners v. QinetiQ, the Delaware Supreme Court held in 2015 that a covenant barring actions taken “with the intent of” reducing the earn-out required proof of intent, and it declined to use the implied covenant of good faith to add duties the seller had asked for and failed to get. So ask for the duties in writing:

• Operate the business consistent with past practice, at the same location, under the same trade name, through the earn-out period.
• Maintain the license in good standing; a suspension caused by the buyer accelerates the payment.
• Minimum inventory, staffing and marketing spend.
• No diversion of customers to the buyer’s other stores.
• Defined accounting policies, with a worked EBITDA example attached as an exhibit.
• Monthly reports, access to books, and an independent accountant to resolve disputes.
• Acceleration on a sale of the business, loss of the license through buyer fault, or buyer insolvency.
• Limits on set-off: the buyer may hold back only for claims already noticed, and only up to a stated amount.
• Security for payment, which raises the same collateral limits described on seller notes and security interests.

How is an earn-out taxed?

For the seller, an earn-out is normally a contingent-payment installment sale. IRS Publication 537 explains that gain is reported as payments are received, that basis recovery depends on whether the agreement states a maximum price or a fixed period, and that part of each deferred payment is recharacterized as interest if the contract does not charge adequate interest. A cap on the earn-out therefore matters for tax as well as for price. If earn-out payments depend on the seller continuing to work in the business, the IRS may treat them as compensation. The broader picture is on taxes when selling a cannabis business.

Earn-out or something else?

If the gap is about risk of non-payment, a seller note with collateral is cleaner. If it is about regulatory timing, a milestone payment is more objective than a financial metric. If the buyer is a public company, stock carries its own upside and its own problems. The three main forms of deferred consideration are compared on cash vs stock vs seller note. This page is general education, not legal or tax advice.