[Solution]Topic: Mergers

Why merge? We have seen and been advising on a growing number of independent schools exploring the possibility of mergers with other schools. Smaller independent…

Why
merge?

We
have seen and been advising on a growing number of independent schools
exploring the possibility of mergers with other schools.

Smaller
independent schools are having to rethink their business model as a result of
the sharp increases in teachers’ salaries, in particular the teachers’ pension
contributory rate. These costs as well as other increasing fixed costs schools
are increasing their fees.

If
this trend continues, independent schools risk pricing out parents already
feeling the pressure of the economic environment, threatening pupil numbers as
well as adding pressure on fee debtor and cash realisation position. In
addition as the operating position decreases for some schools, school premises are
not invested in and are always in need of renovation, maintenance and
improvement and are a constant drain on resources.

The combined
brand and synergy of a successful merger partnership could secure the future of
a number of independent schools as well as remain affordable for parents.

Merger
type?

Ultimately the type of merger will be informed by a number of factors
such as liabilities as a result of the merger, existing staff and impact on
other key stakeholders such as prospective parents.  

The merger will usually be achieved by one of the following methods:

Acquiree
transferring its undertaking (ie the business of running the school),
assets and liabilities to acquirer; orAcquiree
and acquirer both transferring their undertaking, assets and liabilities
to a newly established charitable company (“Newco”); orAcquirer
being appointed as trustee (or sole corporate member) of acquiree.

As part of a
merger each of the schools will need to consider their financial circumstances
and at Haysmacintyre, we are increasingly being asked to assist in financial
due diligence and set out below what to expect during this process.

Due diligence

‘Due diligence’ is the term used to describe the steps
schools take to assure themselves that a merger is in their best interests and
that there are no “surprise” fllowing the merger with respect to areas such as
liabilities and fee debtors.

The governors are ultimately responsible for deciding what level
of due diligence is required dependending on the risk of the merger.

Due diligence typically consists of three areas: financial,
legal and academic. We are focusing on financial:

The visit

The acquiree will need to be prepared for the detailed but vital assembling
and assessing all the relevant information and documentation relating to their
school. The areas that will be reviewed are:

General

Annual financial statements – typically for the last three
years to comment on the results of the school, identify any key trends and to
comment on compliance with the Statement of Recommended Practice, Accounting
and Reporting (SORP), including any differences in accounting policies.

Audit findings report – to identify and report on any
control issues raised by auditors and offer best practice recommendations. How
effective are internal financial controls and do any areas need to be reviewed?

Management accounts – comment on the format and structure
of the management accounts and an assessment of the future position of the
school.

Cash flow – review cash flow and look for trends that show
sustainability.

Assets and liabilities

The
balance sheet review will involve work not too dissimilar to an audit.
Properties will be checked to Land Registry and assessed for valuation. Any
capital plans would be reviewed for affordability based on the financial
projections mentioned above.

Debtors,
especially fee debtors, will be looked at critically to see if debts
transferred are recoverable. We would also comment on the fees received in
advance position in line with cash flow forecasts.

It will be important to review any loan documentation for covenants and
what impact a merger would have on the current terms, particularly with the
rise in staff costs expected in the sector.

Pension
schemes Specialist advice must be taken from the pension provider and other
relevant professional advisers. What sort of liabilities may arise if
membership of the scheme is terminated either by staff leaving or transferring
or by the merging organisation ceasing to exist?

On a more general note, other day to day debts will also be owed by and
to each school so an agreement may need to be reached as to how these monies
are received into the merged entity. This would include fees received in
advance.

Long term contracts and leases would be areas that would impact the
future liability of the merged entity and will be reviewed and reported on.

Taxation

There are three taxes to consider as part of the due diligence exercise
– direct tax, employment tax and VAT. Assessing potential tax liabilities forms
an integral part of financial due diligence as every school operates slightly
differently. In particular visiting music teachers and staff living
accommodation and an assessment of current income streatms.

Finally it is worth bearing in mind commercial and fundraising entities
that are either affiliated or owned by the acquiree. Legal advice would need to
be taken as to the best way to structure this to ensure any legacies for
example still fins their way tot eh merged entity.

Conclusion
The post Topic: Mergers

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