As the economy starts to emerge from the impact of the COVID-19 pandemic and multiple lockdowns, many law firms will be considering not only how they can ensure the firm survives but how to bounce back stronger and more resilient to the economic challenges they may have faced during the past year. This might include reviving shelved pre-COVID-19 merger plans or re-appraising their existing business plans in light of the ‘new normal’ to include mergers or bolt-on acquisitions aimed at enhancing strategic growth opportunities. Inevitably, there will be some distressed law firms that are seeking a merger as a protective measure to mitigate against financial difficulties.
A successful law firm merger was not easy before the pandemic let alone amidst the current turbulent and uncertain trading conditions. In this news alert, Zulon Begum, Wendy Chung and Wonu Sanda discuss some of the key issues that need to be addressed for a merger to be successful.
Identify the right merger partner
The merger process from start to finish can take many months, in some cases even years. One of the first and most important steps is to find the right firm to merge with.
Setting clear objectives for the merger (whether it be practice synergies, market expansion, succession planning or to avoid financial distress) is the key to identifying the right merger partner. The importance of a finding a firm with a cultural fit should not be underestimated (given that law firms are essentially people businesses) and will help to smooth the process when it comes to negotiations and integration of the firms following the merger. However, the subjectivity of what a “a cultural fit” means and the fact that a firm’s true culture might only come to light after due diligence and negotiations have commenced often makes it the hardest test to pass.
As society begins to unlock, and alongside the inevitable virtual meetings, senior management teams and leaders of potential merger parties will no doubt want to prioritise holding face to face meetings safely where possible with a small number of constituents, to assist with making their assessment of cultural fit.
Preparations to strengthen negotiating position
Both merger parties should ensure that their firm is in the strongest possible position to attract a merger partner and, if necessary, take steps to prevent any unexpected roadblocks or deal breakers down the line. A firm that is seeking to merge may find it a good investment of time and resources to undertake a degree of ‘reverse’ due diligence on itself to identify potential issues that may arise and how it can mitigate the effects of any problems (e.g., high PII costs due to an adverse claims history or expensive lease and annuity obligations).
A firm’s partner remuneration structure and the increased risk of client conflicts are also common sources of stumbling blocks. Fundamental differences in partner remuneration structures can be difficult to overcome. Firms should discuss and agree on the remuneration structure that will and will not work for the merged firm and its partners.
The merger due diligence process may reveal potential client conflicts between the merger parties. If the only resolution is to let go of significant clients, the potential synergies from the merger will become less attractive. Before agreeing a merger, both firms need to identify their critical clients and consider the feasibility and effects of giving up one or more of those clients to progress the merger deal.
Securing partner buy-in
Both firms need to approve the deal and the partners will need to sign up to new terms for the merged firm.
The firms should review their respective partnership agreements to ensure that the requisite number of votes to approve the deal is achievable (i.e. is a 90% majority realistic and does any partner have a veto?) and that the applicable voting procedures can be followed (particularly if it continues to be difficult to hold large physical meetings). If not, changes may need to be introduced (with caution) to prevent the merger being blocked by influential dissenting partners.
Any departure of rainmaking or influential partners and employees or a valuable team, before or after the merger, has the potential to destabilise a firm and put an end to the merger. Common triggers for departures include unwanted changes to roles, career progression and remuneration and a lack of confidence in the strategy and management of the merged firm.
It is vital to ensure that both merger parties have an effective and tightly managed communication strategy to prevent uncertainty and maintain partner buy-in.
Effective business protections
Both merger parties and, if the merger proceeds to completion, the merged firm should ensure that they have effective contractual protections to protect their business and reputation.
The business protections that are key in a proposed merger (in addition to the usual protections), are team move restrictions (to prevent a mass exodus or loss of a critical department) and a lock-in period (for partners to remain at the merged firm for a specified period).
Confidentiality obligations and a clear internal and external communications strategy are also important (especially whilst staff are working remotely) to prevent merger negotiations being leaked prematurely or confidential information falling into the hands of a competitor.
A version of this article was first published on 12 March, 2021 by Law.com,
If you are a partnership or LLP and are considering a merger or demerger and would like to find out about how we can support you through the process, or if you have any other queries on the content of this alert, please get in touch with Zulon Begum, Wendy Chung or Wonu Sanda, all of whom specialise in partnership matters.