Six Common Assumptions that can Derail the Sale of a Law Firm and leave you with Significant Liabilities
Ownership changes in an organisation can take place for a variety of reasons and whether by sale, retirement or cessation, exiting a business can be a daunting prospect. When the time comes to exit your legal firm, careful planning around liabilities and assets is key to ensure a smooth transition that is right for you and your business. This will achieve the best value for you, remaining staff will be more secure in their ongoing employment, and you will ultimately avoid the main risks during the sale process.
Getting your business in order
Getting your law firm in order to ensure it is fit for sale and maximising its attractiveness before speaking with potential buyers is key. There are countless task that can be undertaken here that will pay dividends but simple and most effective measures will include thorough file audits, clearing account balances, and getting on top of interim billing. Bear in mind that any potential buyer will want to do this – you are just making sure you are ahead of the game, and being on top of this suggests the business is well run and less likely to have endemic issues to be uncovered deeper in the due diligence process.
This may sound like repetition, but it is good practice that makes your business look good to the interested party. It is also a common assumption that these are as good as they should be because you always do what you always do. Having a third party provide oversight ahead of a buyer conducting their due diligence can be money incredibly well spent.
Maintaining proper coverage through and beyond the sale of your practice is vital, and coverage details will likely be a key point in the sale transaction deal. Once your business has been transferred, there is still the possibility of unexpected claims cropping up later down the line, and a buyer will take a commercial view on the risk they are prepared to take on.
A common assumption people make is that a buyer will become a successor practice but if your insurance history has too many claims or notifications in the recent past, this is a red flag for a buyer who may insist that run-off cover is put in place instead. This can cost up to four times your annual premium so is prohibitively expensive for many firms, and will consequently torpedo acquisition deals. If your insurance is much more than 5% of turnover, this is generally an indication that you are seen as high risk. There are steps that can be taken to reduce this risk factor but it needs preparing well in advance of your planned exit.
Assuming that your premises is in good working order and compliant with the lease can be a costly mistake to make, and sales often fall through due to dilapidation costs being ignored until it is too late. Early action to identify the condition of the premises will expose any dilapidations, allowing you to prepare a realistic budget for the works to be done and ensure there is no miscommunication around who is liable to cover the costs. If dilapidation issues are not addressed before opening the doors of your business to a potential buyer, it may have a significant impact on their interest.
Although statistically unlikely, it is not rare for the Solicitors Regulation Authority (SRA) to close a business through intervention. This does not only happen in cases of dishonesty – if a firm is unable to sustain itself financially because issues like insurance and dilapidations have not been accounted for properly. Should this happen, costs mount up quickly and a business insolvency event can morph into a personal insolvency depending on the limited liability status of your firm.
Health and wellbeing of partners
Most people are sensible enough to work on the transfer of their business prior to health issues becoming apparent, but we all know someone who has been struck down long before their time when nobody saw it coming. It does not even have to be as serious as death – incapacitation for any significant period of time can ruin a small firm. This is not just by the loss of fees attributable to that one partner, but also from the additional workload (regulation, finance, staff, operations etc.) that it lands on the remaining partners and the knock on effect this has on their fee-earning abilities.
Just because you are considering selling your business, succession planning cannot be ignored. A lengthy sale process can be the undoing of a firm, particularly if a key person’s ability to participate in the ongoing business diminishes during the due diligence period. This will cause heads of terms to be renegotiated or even undermine the deal. One other point worth making here is how many firms operate as a ‘partnership at will’ which would mean the dissolution of business in the event of death of one of the partners. All firms should have a robust partnership/LLP agreement in place (or articles if incorporated).
Few people would choose to end a business by cessation because of the enormous additional levels of costs, but if the firm is not suitable for sale or all of the partners do not embrace the process, this is the only realistic option beyond continuation indefinitely. If you choose to opt for cessation instead of a sale, there are many costly implications to take into consideration. These include redundancy payments, run-off cover, termination penalties for leased equipment and premises as well as conducting an orderly handover of client matters to prevent SRA intervention. Closing a firm in this way could feasibly cost well in excess of one year’s profit, so sometimes a purchase price of £1 can represent incredibly good value.
Achieving a successful sale
Making the right decision on the best way to structure the sale of your legal business and transfer of liabilities depends on a host of factors. It is important to understand and evaluate these long before advancing the process to avoid unnecessary expense and delays. This will in turn help you to negotiate a more effective deal terms and accelerate the sale of your business, sometimes by years.
Discover how Ortus Group can keep you one step ahead during the sales process and increase your chance of a successful business sale. Get in touch with the team today.