The urge to merge: Increase your chances of success

For many years, commentators have predicted mid-market consolidation in the UK legal sector. That prediction seems to be coming true.

Not all mergers are successful and many never get to completion. But, there is an approach to mergers which increases the chances of
success. Firms contemplating a merger should consider the following issues.

Strategic drivers

A merger should be a component of the growth strategy for the firm. The two parties to a merger will not necessarily have the same reasons for wanting to merge but both parties must share the same goals for the merged firm.

In a merger of equals, economies of scale can be an important consideration, even when both parties are well-run firms. This is unlikely to be enough by itself to motivate
firms to go through the
merger process.

As part of the outcome of the merger, most firms will be looking to expand into a new practice area or a domestic or international market, or to have the opportunity to diversify the client base, having decided that these targets can be better achieved through a merger than internal expansion.

Firms may have defensive reasons for engaging in a merger. Typically, this is the inability to fund the retirement of founder partners, the loss of a significant client or increases in
operating costs.

Defensive reasons for merging do not prevent a firm from being an attractive merger target. Both parties will need to determine their evaluation parameters for the merger.

Due diligence

In addition to the strategic reasons outlined above, financial performance is normally a key concern. Both parties should carry out due diligence.

Firms should decide the typical benchmarks they are going to use to test financial performance and to identify financial weaknesses. These may include revenues and profits per equity partner; expenses and overheads per lawyer; leverage ratios and utilisation rates; and realisation rates for billings and collections.

Due diligence on the client bases will be important. Many exploratory mergers have failed because of client conflicts.

Meeting objectives

Completing a merger needs good preparation and project management. It is crucial that, throughout the process, all parties do not lose sight of the rationale and ultimate goals for the merger.

Most successful mergers are run by a working committee responsible for managing the process to completion and agreeing a merger integration plan. The process usually involves other professionals: accountants to advise on financial projections for the merged firm (including tax, different remuneration structures and valuation of assets and liabilities); and specialist partnership lawyers to paper the deal. Bankers will also be involved if debt funding is part of the new firm.

In the negotiation process, complete transparency and good faith smooth the process. Looking for negotiating victories in the process, as if representing a client, will make the task more difficult. The goal should be to concentrate on the needs of the new firm.

The negotiating committees should not avoid the difficult issues which can be deal breakers; these should be dealt with early in the process. Typical issues are the new firm's name; major conflicts (client and practice area); the management structure of the new organisation; partner compensation (structure and amount); underperforming partners and practice philosophies (e.g. billable
hour expectations).

Financial issues can also be a problem. It is fairly common for both firms to have some hidden liabilities in their respective balance sheets (e.g. unfunded pension liabilities) which will be inherited by the new firm. If these issues cannot be resolved, it is better to decide that early in the process, thus avoiding
some of the considerable time and expense the merger process involves.

Winning support

Both firms are likely to want to keep the proposed merger secret for as long as they can. Press coverage can add another pressure to the process which is unlikely to be helpful. Balanced against the desire for confidentiality is the need to keep the partners updated and supportive of the merger.

Most firms' partnership agreements require a super majority, 75 per cent or 90 per cent of the partner vote, or sometimes unanimity, to approve a merger. This can give an individual partner or a small group of partners a bargaining position. It is important for a firm to understand at the outset of the process its options as to the best way to deal with unsupportive partners.

Having reached completion, the success of the transaction will be determined by the implementation of the next stage of the process - the integration plan. SJ