Insolvency News Blog

Law firm M&A: Safety in numbers?

With some mid-sized law firms some firms struggling to return to pre-credit crunch profitability, Grant Thornton’s David Dunckley suggests some solutions

The last round of results posted by the UK’s leading law firms shows 2010/2011 profit per equity partner levels improving.

However, the results also show that even after cost cutting measures and partnership ‘clean ups’ some firms are continuing to struggle to return to pre-credit crunch profitability.
This indicates that the financial crisis has led to a sustained shift in market conditions, as lower demand across some areas (e.g. M&A) persists and as unrelenting pricing pressure from clients continues to impact on margins.

Indeed, financial performance of the leading UK firms in 2010/2011 was very diverse – in the magic circle alone, margins varied from 53 per cent to 31 per cent in 2010/2011.

Funding models
The Legal Services Act came into force on 6 Oct this year and with it law firms will need to adjust to new funding models, increased competition and new entrants.

We have yet to see any radical new business models to challenge the status quo in the sector, but the impact of the legislation could be far reaching as law firms continue their search for sustainable profit.

Given these market pressures and the general uncertainty over the outlook for the global economy, law firms we are working with are increasingly looking at mergers to address some of the strategic and operational issues they face.

In the UK there are just over 70 mid-tier law firms (turnover £25-£250million). All are under increasing pressure to consider options for enhancing their firm’s ability to deliver to their clients.

The recently announced mergers of DAC and Beachcroft and Clyde & Co with BLG clearly demonstrate that firms see the benefits of being able to offer a broader range of services to their chosen clients.

That said, there are not too many full scale mergers that will 100 per cent satisfy firms’ strategic needs. Given this, we are likely to see an increasing number of team lateral hires in the next few years.

There is also evidence of strong niche practices considering firms with a broader offering as possible merger partners to reduce the risks that come with an overreliance on a market or client type.
However, there are some key considerations that law firms and their funders should look at when considering a merger or acquisition:

M&A considerations
Secure a strategic fit for maximum synergies.
Scale is sometimes presented as the panacea to achieve cost savings. In reality only firms that have a strategic fit will derive significant cost savings.

Contain the distress
If distress is present, it is essential that its root causes are found early on and that an assessment is made whether the business in its current form is viable or whether only parts are to be saved.
If causes of distress are not identified and dealt with prior to the merger, then problems are likely to manifest themselves in the enlarged firm.

Sustain key revenue
An analysis of the revenue base (clients and fee earners comprising each merger party) and degree of reliance on one off assignments vs. regular work flow is critical.
High-performing partners have to be motivated/rewarded and long-standing/institutional clients must be supported throughout the merger process to protect future revenue flow.

Align profit sharing
The impact of the merger on partner remuneration and future potential remuneration (once entities are merged) must be effectively communicated, especially if the start point of each firm’s profit differs through distress or otherwise.
In doing this the costs of the merger must be separately treated; having a structure which penalises a distressed target could lead to a loss of key fee earners.

Create a business shape for the future
A detailed assessment of the expected shape/leverage/profitability across each critical service line is required to ensure that the business shape of the combined firm maximises profit and growth potential. The combined partnership must be aligned to areas of real competitive advantage.

We would also urge law firms to put alternative pricing and the drive for efficiency at the heart of any merger discussion. The cost benefits of post credit crunch salary freezes and partnership ‘clean ups’ are temporary.

We would say that a deeper issue underlies some of the lower margins we are seeing in the sector. A growing number of clients are now challenging the validity of the leveraged model that law firms are built on.

They question why they should pay for ‘on the job’ training of junior lawyers and they are mindful of overpaying on lower end deliverables. It could well be that firms who fail to adapt to this development will be overtaken by others that do.

David Dunckley is partner and head of mid market (Advisory) at Grant Thornton

Legal M&A: Additional considerations

• assess the impact of combining two different pension schemes
• Stress-test the merged entity against market dynamics
• Plan potential funding considerations/impact on covenants
• Identify key post-acquisition actions
• Identify any risk management, claims or management team issues

Posted on 13th January 2012 by Joe McGrath • Read comments • Permalink

What next for HMV?

News that HMV’s like-for-like sales were down 8.2 per cent in the five weeks to the end of December may have surprised those sitting around the HMV boardroom.

But those of us on the outside were not so shocked.

HMV’s slow and painful decline has been excruciating to watch across its once key markets of music, games and video.

The latest ‘strategy’ to move the business’s focus to technology hardware is yet another mistake.

The market which it is now waltzing into is already crowded and the cruel economic reality has claimed many a scalp.

You only have to look at the recent difficulties experienced by Comet, Currys and PC World to know that this is a clumsy attempt at a recovery.

I’m sure there has been ‘growth’ in the sale of technology products, but that’s because it is offering more of them.

As for the decline in music and film sales, this can be attributed to a clumsy approach to digital and an unwise rationalisation of what is on offer in store.

I recently stopped by a store in Moorgate, London. It was a horrific experience. I had money in my pocket and was looking for a gift for a friend.

In the old days, there would have been a wide selection of music, films and games but all I could find was iPod accessories and T-shirts. Is it no wonder then, that so much of HMV’s footfall turns around and disappears back home to buy something online.

The worst thing about it is that, for my generation, HMV has huge brand value – even today – it is just the approach to the business that needs a second look.

First of all, most of its stores should be closed. The rent is costly and many of the sites are not justifying their existence any longer.

That said, there are a tiny number of sites (and I mean a dozen or so) which do still hold significant value.

I was recently departing from a London airport and couldn’t help but notice that HMV was selling CDs. I say selling, the store was empty but that’s not the point.

A better use of the remaining sites at airports, railway stations and ports would be to refocus on music, video and games and offer instant downloads to MP3 players, tablets, laptops for those embarking on a journey.

There might be room for some accessories (earphones, travel pillows, etc) too. That’s where the value remains.

All this technology nonsense is taking a perfectly good brand down a dead end from which it will never escape.

It genuinely pains me to read the constant criticism of what was once an exciting business in the press, but the management seriously need a rethink.

Joe McGrath is editor of Insolvency News

Posted on 12th January 2012 by Joe McGrath • Read comments • Permalink

Football, secrets and lies

As Darlington Football Club enters administration for the third time in a decade, Brendan Guilfoyle of the P&A Partnership asks whether football clubs are businesses that are worth saving?

This year, my firm helped another historic football club, Plymouth Argyle to survive. At times I thought we would have to admit defeat. Without doubt it was the most challenging rescue of my career.

This month I sat down with colleagues and we took the whole process to pieces. What lessons could we learn, what has changed in insolvency and would we take on another football club in crisis again?

As with any football club, Plymouth Argyle’s fans are passionate and wanted the best deal for their club.

I’m a football fanatic myself and I completely understood their concerns, their comments and their criticisms. But parts of the insolvency process make it almost impossible to communicate openly with fans and others in the way you want.

I was tied by confidentiality clauses and hated standing up in front of fans and not being able to tell them the whole story.

In this blog, I’ve pieced together thoughts about the past and the future. The big question the fans asked was – why did the process take so long, which in turn penalised wages of players and staff?

Speed of rescue
These were the facts:

1. We only had one buyer who was prepared to show the colour of any money for the rescue – Heaney put down a deposit of £300k in return for exclusivity to negotiate – and insisted on secrecy. He lost his £300k because he could not deliver the rest of his promise.

2. James Brent, the ultimate buyer, initially said he and his backer could only ‘compete with the liquidator’– i.e. if and when the club was about to be closed. He was a reluctant buyer.

When you negotiate a sale out of an insolvency, you have to make judgments which are based on years of knowledge and experience. The bank was at the crux of any deal. It held security over the stadium which it said was watertight.

I would have put money on it not shifting from this position. In the end, it took a very large haircut to make the deal work and save the club – but only when all other options had been exhausted.

We had five other potential buyers but no-one else committed money as Heaney did. Two withdrew because of campaigns run by the fans – they have families and businesses and the risks of the deal became personally too much for them.

I hold my hands up and admit I thought Heaney would deliver the balance of money and buy the club. I got that wrong. But in anyone’s language, £300k is a big commitment of money to lose – this was not a fairy-tale bid. And at that time the bank was holding its position, no other rescue was possible – and this was the only deal in town other than liquidation.

Gagged and abused
There were three aspects of this administration which nearly brought the club down – secrecy, social media and the timescales involved.
The inability to be transparent and open with fans, who rightly wanted to know what was happening was extremely difficult while the fans used Twitter, forums and blogs to get their messages out quickly. While understandable, this created a feeding frenzy and put additional pressure on everyone involved, particularly potential buyers
With regards to the protracted timescales, you could argue that in theory a rescue would not have happened without allowing time for everyone to realise how serious the options were. However, it meant considerable sacrifices for everyone – particularly players and staff.

*In the future *What will we do differently in future? Can we still make a football rescue work? We really hope so, but this is what we will do differently another time:

At the outset we will be realistic with everyone – fans, creditors, players and staff, prospective buyers – we will spell out exactly what the prospects are for a rescue.

The market has changed and is getting worse, we can no longer assume we can find buyers for football clubs. We also need everyone to understand what could scupper a potential purchase.

We won’t sign any confidentiality clauses – that way we can keep fans involved and have open discussions.

We will create a website for the administration process and keep fans informed about what is happening and allow them to discuss, ask questions and give feedback.

There will be a short deadline for bids – probably a month. We either get the money in full for the deal – as with other administrations – or the club has to be shut down
It is clear there will be more football clubs in dire straits next year.

Should we still believe in rescues or are there many failing clubs that should be shut down? What do you think?

Posted on 9th January 2012 by CircData • Read comments • Permalink

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