Are De-Merger Clauses Useful?

October 23rd, 2007 by Jim Cotterman

Merger discussions generally center around the rationale for and methods of putting two law firms together.  The focus is on the opportunities to access new clients and markets, to qualify for more interesting engagements, and to bring on additional expertise.  There is a long list of issues to consider — strategy, culture, conflicts, financial results and the like.  Then there are structure concerns, redundancies, tax considerations, and more to negotiate prior to bringing the transaction to a successful conclusion.  Yet even with careful planning, every once in a while the pre-merger thinking misses the mark and the post-merger firm is not destined to make it. 
Like pre-nuptial agreements, de-merger clauses are often not considered appropriate.  Who wants to plan the breakup at the beginning of the relationship?  And certainly an “out” option may delay and complicate integration of the two firms — such as sharing clients, integrating service teams and combining administrative functions.  A de-merger clause may not be appropriate in all situations, but it can be helpful.  Undoing a failed merger is tricky under the best situations, it becomes much more challenging when one firm has given up its identity as part of the deal.  Having a roadmap can ease the difficult and sometimes contentious task of undoing the deal.
Here are some factors where a de-merger clause might be helpful:
Protecting client relationships — this can be complicated in two ways:  1) how client relationship responsibility is assigned in the combined firm (expertise, location, succession plan and the like), and; 2) who clients want to continue with as their advisors (the client’s wishes control).  A de-merger clause should think through how to fairly treat the firm who brought the client to the dance.  Then there are the new post merger clients.  Here the complications are how the client came to the new firm and where it ends up after the break up.  Particularly difficult are jointly obtained clients where only one firm will serve the client going forward.
People — A law firm’s most precious resources are its people.  Generally one would expect to have people return to their pre-merger firm.  Many times it is not quite so simple.  There may be some unofficial recruiting going on behind the scenes.  Some individuals may prefer to “cross-over” to the other firm.  Then there are the displaced personnel lost during rationalization.  Finally there are the reluctant participants — partners who went along with the deal with reservations and now desperately want to take their practices and leave.  Each of these scenarios can be anticipated and protocols agreed to as part of a de-merger clause. 
Infrastructure — It is more an issue when the firms have combined physically.  Someone will need to move or there will be costs to segregate and reconfigure space to accommodate two separate firms.  The same holds for technology, library and other shared administrative services.
Partial acquisitions — These are deals where not all partners become equity partners in the new firm.  In these instances the de-equitized partners are often bought out of their equity positions as part of the transaction.  If these buy-outs are relatively minor as a cost of the deal, a de-merger clause might be helpful.
When are de-merger clauses possibly not helpful?
Succession deals — The purpose of a succession deal is to provide an exit strategy for “sellers” while transferring clients and market presence to the “buyers.”  The acquirer will invest heavily in making the transfer successful and it would not be terribly helpful for the seller to have an out to pursue a more attractive offer that could come along.
Integration efforts — Forging a single firm out of the two predecessor firms is challenging and requires three to five years under good conditions.  Having a short term strategy to undo the deal complicates these efforts.  It is just common sense that each party will tend to protect their positions while the option exists.  Thus a discord to the efforts required to go forward as a single firm. 

This entry was posted on Tuesday, October 23rd, 2007 at 7:17 am and is filed under Mergers. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.

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