On April 9th, I moderated “Buy, Sell, Hold: What Survives the AI Era?” at the Abacum Summit.
We tackled a simple question: What parts of finance are actually worth keeping — and what needs to go?
Alongside Chris Brubaker (Postscript), Fraser Hopper (PostHog) and Tania Secor (Stamford Health), we turned it into a live, audience-voted debate on what modern finance teams should buy into, sell off or hold on to as AI reshapes the function.
If you couldn’t make it to Gotham Hall, the full session is now available on demand.
Hi, it's CJ Gustafson and welcome to Looking for Leverage.
Today's term: Key Man Clause. I’ve brought in an expert, and friend, Rohan Shukla, who’s had tons of reps as both an investment banker on the sell side, as well as a PE investor on the buy-side, directly negotiating key-man clauses with founders and management teams. He knows what levers to pull to maximize your outcome (and not have to sit around at the acquirer for 10 years re-vesting). Please subscribe to his great newsletter The Shukla Script.
Take it away, Rohan:
Does anybody remember the 2007 NBA season when LeBron James and a roster of Walmart employees made it all the way to the NBA Finals?
Notice how I didn't even mention the Cleveland Cavaliers in that sentence…because calling them a “team” would be disrespectful to LeBron.
That season, everything the Cavs did revolved around LeBron. He was the offense, the defense, and most nights, the entire reason they were competitive. The actual asset on the floor was one guy…take him out of the lineup and the value of that “team” collapsed.
That, in a nutshell, is key-man risk. And while there is plenty of content discussing how PE dealmakers can negotiate for better valuations when target businesses over-rely on one or two individuals, not enough content exists to cover what you can do as an operator today to prepare for and mitigate that risk ahead of discussions with a potential PE-sponsor. Because if you stay ready, you ain’t gotta get ready.
2007 LeBron realizing he forgot to read LFL to get his key-man risk mitigation strategy in place.
Because if you're running an independent business and staring down a PE process in the next 12-36 months, this is the conversation that's about to dominate your diligence cycle. And even if you're already PE-backed, don't tune out; a similar conversation will arise when your existing sponsor eventually wants to exit, and you’ll make everyone' s life easier by having already addressed these concerns.
And in my experience, operators actually have far more leverage in these negotiations than they realize, but the key is giving yourself enough time to make the necessary changes to the business for when deal-day arrives.
Where buyers are flagging key-man risk
You probably know the textbook version where key-man risk shows up: founder-CEO built the company, still manages the top relationships, and keeps most of the playbook in their head. That’s the obvious case.
The more interesting cases are the ones that only a more sophisticated investor would notice:
the CRO whose rolodex is the pipeline, where 60%+ of revenue traces back to relationships they built long before joining the company;
the CTO who wrote the original code base and is the only person who actually understands how a critical piece of infrastructure is held together (without needing to pull out the duct tape and say a prayer);
the Head of Operations at a manufacturer with 30+ years of vendor relationships who’s won favorable terms nobody else could replicate;
the General Counsel at a healthcare business who knows where every regulator stands in the approval cycle, and whose departure adds six months to your next audit response;
the founder's spouse running AP, payroll, and HR behind the scenes at a family business, where their absence would surface a dozen broken processes in a week (and yes, this is more common than you'd think)
Here’s the test: If you can describe a critical function with the phrase "well, [name] just handles that," you have key-man risk in that function. And the diligence team across the table will find it too…we promise!
How buyers price and structure key-man risk
Any savvy PE buyer will address key-man risk both in the headline valuation and in the deal structure.
In my experience, the key-man valuation discount tends to land somewhere in the 5-35+% range, depending on how concentrated the risk is, and the size of the business. Sub-$50M EBITDA businesses with a single founder running everything often see the upper end. Larger businesses with deeper benches can be in the low single digits.
But the more meaningful adjustments usually show up in the structure, rather than the headline enterprise value. The buyer may say "we'll pay you the full headline number...but we want to structure $X million of it across earnouts, escrow, and rollover equity tied to your continued involvement." This is where deals tend to have the most creativity and wiggle room.
I once worked on the acquisition of a regional industrial business with a fantastic CEO and a blue-chip customer base. Late in diligence, we learned the CEO had recently been treated for a major illness and hadn't disclosed it. We could have walked away…but instead got creative, slightly trimmed the headline price, and pushed a larger chunk of his proceeds into escrow that would release only as the business hit key milestones and the CEO passed periodic health checks. He almost got the same amount of proceeds, just structured in a very different way.
The operator's takeaway from that story? The structure of your proceeds is often more negotiable than the headline number. If you want to maximize what (and when) you actually take home, that's where you likely have more leverage to push if your business is well designed.
What retention and earnout clauses typically look like
You'll generally see the same handful of structures proposed in these discussions:
Rollover equity: typically 10-30% of total proceeds (though sometimes materially more if the sponsor only wants to take a minority stake), where you reinvest into the new entity alongside the PE buyer. Often the most upside-rich piece because you're getting “another bite at the apple” under new ownership and (theoretically) better operational rigor that the next buyer should pay a premium for. "Pro tip: push to roll into the same share class as the sponsor (likely some type of preferred equity), rather than common, to reduce the likelihood of the sponsor eating that whole apple if the next exit isn’t a home-run."
Earnouts: The $-amounts here can range widely, but they’re typically paid out over two to three years if specific revenue, EBITDA, or operational milestones are hit. When existing operators request too high of a valuation, buyers will often tell them to “put their money where their mouth is,” bridging them to that implied valuation with an earnout if they can actually hit the financial metrics they’re pitching in their near-term forecasts.
Escrow / holdback: typically 10-20% held back for 12-24 months to cover indemnities, customer attrition, or general "what if it falls apart" scenarios. It’s an insurance policy of sorts.
Employment agreement + non-compete: typically two to four years of formal employment, with a non-compete that extends one to three years past your employment end date.
The total timeframe for your "you have to stick around" obligations usually lands in the two-to-four year range. One year is rare (and very generous). Five-plus is extreme and generally only shows up in the highest-risk deals.
How to approach these negotiations with confidence as an operator
Here are five concrete strategies you can use both before and during a negotiation with a sponsor:
Build your #2 before you start the process. The single biggest lever you have is reducing the buyer's perceived key-man risk before you walk into the room. If you're 18-36 months out from a sale (your first one or your sponsor's eventual exit), develop a real successor in each key operating role. The work to systematize, document, and bench your team is the highest-ROI value-creation lever for your next exit. At minimum, if you don’t have a person, have the documentation on how key processes are completed. You want to avoid implying anything important lives in someone’s head.
Negotiate milestone definitions, not just thresholds. Buyers will offer you an earnout tied to "$X of EBITDA in year 2." Get clear on the definition. Seriously. Get crystal clear. What counts as EBITDA? Are integration costs added back? What about new investments the buyer forces you to make that depress near-term margin? The definition is where the dollars live (see here for another LFL article covering how these EBITDA definitions can majorly deviate…).
Get clear on operational control during the earnout period. If you're being asked to hit numbers, you need to keep the levers that actually drive those numbers. Ask explicitly: who controls hiring, who approves capex, who can change pricing, who can renegotiate customer terms? Anything that affects your earnout but you don't control is a potential red flag.
Push for objective milestones over subjective ones. "Revenue of $50M" is objective. "Successful integration as determined by the Board" is the kind of subjective milestone that gets used to deny earnout payouts later. This type of ambiguous, subjective language is a killer (and rarely works out in your favor). Lean toward financial and operational metrics that can be objectively calculated to the fullest extent possible.
Negotiate the non-compete with your next chapter in mind. Geography, scope, and time. A two-year non-compete with national geographic scope and a broad industry definition is meaningfully more restrictive than a one-year, regional, narrowly-defined version. If you haven’t made enough to retire off this transaction, you need to make sure you have access to gainful employment post transaction. This protects the value and flexibility of whatever your next life chapter holds.
Get the full value for what you’ve built
If you walk into an LOI negotiation unprepared, the buyer will set the terms. But if you walk in with a true successor bench, tight milestone definitions, and a clear list of what you're not willing to give up in the retention period, you have a materially higher chance of getting paid properly and maximizing the next few years of your involvement.
The best operators I've worked with treat key-man risk as the single biggest value-creation project they run in the 18-36 months before a sale. They de-risk the business systematically so the buyer has nothing left to negotiate against. The 5-35% discount basically disappears, and the retention package becomes a major wealth creation vehicle for capturing additional upside post-close. The whole conversation shifts from "how much will the buyer take from me" to "how much will the buyer pay me to stay engaged."
LeBron didn't get his historic deals by hoping the Cavs would value him correctly. He spent the years before free agency making himself undeniable, then walked into the market with terms he wasn't willing to compromise on (and he even got the infamous “The Decision” TV program for it…lol).
You, getting ready to take your talents to South Beach for…other reasons…after avoiding the key-man discount from your sponsor.
Whether you're 36 months out from your first PE process or already in the middle of a sponsor's hold period, the work starts today. Because as a PE backed company, you’re technically always for sale. So build the bench. Document the playbook. Get the operating systems out of your head and into the business. The buyer is always going to ask whether you're irreplaceable…and your job is to make the answer "no" while getting paid like the answer is "yes."
Shoutout to CJ for letting me on LFL. The Shukla Script is my Substack for the next generation of investors entering IB & PE, focused on the nuances of dealmaking while also giving practical advice for combatting the 80+ hour work weeks and office politics…basically all the areas that traditional finance education is missing. If you've got junior folks on your team (or in your orbit) who would benefit from that kind of education, send them my way.
Looking for Leverage breaks down one PE term, clause, or mechanic each week, written for the CFOs and finance leaders who actually have to live with these things. If this got forwarded to you, subscribe at lookingforleverage.com. If there's a term you want broken down, reply and tell me. I read everything.
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