Mergers and Acquisitions: Avoid Unnecessary Legal Fees
When we formed Corridor Legal, we did it with the intention of changing many of the big firm practices that drive unnecessary costs and, worse yet, create inherent conflicts with clients. For instance, conflicts are created when firms train junior lawyers by having them learn the practice by charging clients for their time and then using seasoned lawyers to review that work. The client is charged for both the junior lawyer’s time (which is much more time than it would take a qualified lawyer) and then also charged for the review by the seasoned lawyer (which often takes more time than simply having the senior lawyer do it themselves). The fair thing to do is to write off the junior lawyer’s time. Some do, many do not. When I was buying a significant amount of legal services as general counsel of a public company, I would not allow first or second year lawyers to work on our files. If the work was complex, I expected partners to be doing it themselves.
Law Firm Revenue Tricks in M&A
Another area of conflict with law firms involves lawyers that attempt to sell clients documents that they do not yet need (and may never need) in advance of a contemplated sale of a business. I recently had the opportunity to hear two large law firms pitch for representation of a venture-backed company that is considering beginning a sale process. Both law firms recommended that the company prepare a full advance set of transaction documents for the sale of the company at the very beginning of the process. Conveniently, if the company agrees, the law firm gets paid to do the work in advance regardless of the outcome. This is almost always a bad move for the client and often results in paying attorney’s fees for the same deal twice.
The reason is because preparing documents for mergers and acquisitions requires one to actually know the form of the merger or acquisition. Is it going to be a stock sale, asset sale, merger, reverse-merger? In most cases, the seller has only a preference at the beginning of the process. The seller may have a strong preference, but until a buyer agrees it is only a preference. The form of the deal is mostly determined by the identity of the buyer and by pure negotiation and leverage. Do not let the lawyer tell you that preparing documents in advance will materially impact anything that a sophisticated buyer will do. Everything is negotiable. At the right price, a seller that wants to do a stock sale is probably willing to do an asset sale. If a buyer wants to do an asset sale but critical assets cannot be assigned without the consent of an unwilling third party, it is not going to be an asset sale. That is how mergers and acquisitions deals get done. Doing a full set of documents for a stock sale that turns out to be an asset sale is a complete waste of time. Guess who pays for that wasted time (and guess who gets paid)?
What if the client decides not to sell the company after all or is not actually successful in finding a buyer? If the law firm does the documents in advance, the law firm still gets paid. Do not think for a minute that this is coincidental. As an aside, we also see this trick used in financing documents. If you are going to try to raise money for your company, do not let a law firm sell you investment documents for the round before you know that you likely have a round and what the form of that round and investor rights will be. We have represented venture funds that receive template stock purchase documents from a naive company. Those documents go straight into the circular file (I have literally seen companies charged in excess of $30k for documents that were never even read by the investor).
Even assuming an actual M&A deal gets done in the very same manner predicted at the time the company does the advance documents. The documents prepared in advance will often be so one-sided that no sophisticated buyer will accept the terms without substantial revisions and rounds of negotiations. Again, this is not accidental. The law firm that drafts the advance documents often takes totally non-market positions because the process of revising documents after the buyer refuses to accept the terms drives additional attorney time (read: costs) for the seller. Are you seeing a trend here?
Stick With a Term Sheet
We are continuing to see a mergers and acquisitions marketplace where sellers have unprecedented leverage in the sale. Some sellers are likely to be so sought after that they may be able to get competing bidders to agree to almost anything–including the terms of definitive transaction documents. However, on a percentage basis, this is still seldom the case and, even where it is, there is plenty of time for the documents to be prepared once an agreement in principle is reached. There is no good reason to take the risk of incurring that expense at the beginning of the process. Company’s should always prepare a document that fairly represents the deal they want to do (whether in a sale process or in a capital raise) but that should be done through a short and simple term sheet that is very inexpensive to produce and involves very little attorney time. That term sheet can be easily modified in negotiations and the deal described is non-binding on the parties until full documents are competed and signed. Once the general deal terms have been agreed, it is then prudent to spend the money on producing full deal documents. Before that time, you are probably wasting your money (and enriching your lawyer).
Originally published at corridorlegal.net on September 20, 2015.