PwC’s recent announcement of its collaboration with blockchain start-up Blockstream is a classic example, as was its acquisition of technology company Kusiri’s assets last year.
But what are the implications of the approach adopted to buy-in the expertise? Acquisition of the business, either as an asset or share purchase may look the best option because of the control gained by the acquirer. But what of the liabilities and risks conferred at the same time? Is this always the best route?
Acquisitions have been their vehicle of choice for PwC more recently. However, while buying smaller businesses can allow professional service firms to enhance their offering to clients there are significant practical and legal implications for these kinds of mergers.
Integrating one organisation with its own methods, business model, values and workplace culture into another invariably takes some real thought and patience. They may feel they are a good fit, but often the reality will only be revealed once the smaller business has been absorbed.
There will always be a question mark over whether the firm truly understands the business they are buying. It may understand how to use and benefit from the smaller firm’s specific expertise but that in turn does not necessarily give them an insight into how that firm operates as a business.
It should be clear the transaction process can itself be fairly painful
Clearly there is a risk of “culture shock” for both parties. A firm like PwC is a far larger operation and will have many more procedures, rules and policies.
For an SME, new business may materialise through a sales team of one smart commercial or sales director. But when absorbed there may be business cases to build up and present and a chain of command to follow before a contract or a piece of work can be signed off.
And what about the impact on staff? Some employees may prefer working in a smaller entity with the freedom and workplace environment that entails. It would be a problem for a buyer if the morale of the transferred staff declines and it could be a significant blow if key personnel depart.
Entrepreneurs are often bursting with new ideas, so the founder and the real driver behind the success of the start-up may also depart. The buyer can try and lock key staff in through bonus or earn out terms or restrictive covenants but these are of limited effectiveness if the issue is that crucial team members are no longer involved in the running of the business.
Where the acquired business will continue to deal with external customers then significant changes in personnel could affect customer relations.
They may not be aware of the internal upheavals but if a customer is no longer dealing with an individual with whom they had a strong professional relationship, it may cause them to think twice about continuing to buy the services being provided. A buyer would do well to not underestimate the power of personal relationships with customers.
A buyer will also need to consider how to manage the brand of the business. The brand may be damaged simply as a result of being part of a larger entity.
An SME may be brought under the umbrella of the buyer’s group but may not be presented as such to the outside world. It is likely to be counterproductive if the goodwill attaching to the start-up’s brand is rapidly dispensed with. A start-up may therefore continue to trade under its original brand or at least a more gradual assimilation over a longer period.
There are legal considerations – what about intellectual property, for example? A start-up with a unique product will be reliant on its code (if it is technology-focused) and therefore the copyright in that code. A buyer will want to be confident that the acquired business owns those IP rights and they do not impact on any third party rights.
The legal documentation can provide contractual protection so the buyer has a claim against the start-up sellers if their IP infringes third party rights, but the buyer will not want to have to deal with the fall-out and the costs that this implies.
In an asset sale - such as the PwC Kusiri deal - employees will automatically transfer to the buyer as part of TUPE legislation. The new employer therefore cannot cherry pick personnel and clear out “dead wood”. There is also a procedural burden – the employees need to be properly consulted before the transfer takes place. If the correct process is not followed then employment tribunal proceedings could result.
Establishing what the seller can and cannot do post-merger can be difficult to delineate
Depending on what exactly is being acquired, it may be the buyer needs to look to impose restrictions on the seller. If the selling company is only transferring part of its undertaking then its continuing business may want to continue to offer services to those customers who also deal with the transferred business. Establishing what the seller can and cannot do post-merger can be difficult to delineate and enforcing any restrictions further down the line can be harder still.
What about the ongoing contracts with customers and suppliers? A buyer like PwC may be less interested in those existing relationships but in most mergers these are likely to be critical to the success of the business.
The third party’s consent to the contract being taken over by the buyer may however be required. If a start-up company is being bought wholesale (in other words, a share purchase) then those contracts will pass across automatically but there may still be consents and permissions required as a result of the change of control.
This is just a quick snapshot of the legal implications, but it should be clear the transaction process can itself be fairly painful.
Negotiations about the terms of the sale and purchase documentation often become protracted, and if discussions become fractious this could impact relations post-merger. And as well as the legal costs and emotional costs, both buyers and sellers would do well to bear in mind the effect the transaction process can have on their respective businesses given the amount of management time it will take up.
Simon Ewing is an associate solicitor in the corporate and commercial team at Russell-Cooke LLP