Merging? Use your own lawyer

The following is the second of two articles on agency mergers. The first article highlighted a variety of issues that need to be considered before prospective partners agree to a merger.

Some merger candidates use a third party, such as a facilitator, to discuss the range of issues that must be resolved before a deal is made and to assist with the preparation of pro forma statements.

However, we strongly recommend that each party have its own attorney and CPA to assist in the discussions, although we are aware of some individuals who will represent both parties to the transaction as well as the new entity.

Each agency has unique issues that need to be addressed and, in our opinion, it is not possible for one individual to provide advice to both parties in an impartial manner.

One option is for a third party to draft all of the documents and each agency have them reviewed by its own CPAs and lawyers.

The disadvantage of this process is that it creates additional costs. The alternative is to have one agency's CPAs and lawyers prepare the documents and the other party's review and assist in negotiating the agreement.

One reason to merge is a reduction in costs, including personnel expenses, particularly nonrevenue-producing personnel, insurance, memberships and CRS costs as well as leases.

A merger can also enhance revenue available through the CRS contracts and provide more opportunity for the owners to be directly involved in selling as opposed to solely managing the business.

We never recommend that agencies merge solely to increase overrides from air carriers because, in our experience, that is a very short-term strategy. The financial consultants need to determine how much capital and assets will be required to operate the merged entity.

Valuing the agencies

The parties then need to value each of the agencies for purposes of determining the contribution of each party to the new venture, which may include cash, furniture, fixtures, goodwill, equipment, name, client list and reputation.

It is essential that the agencies be valued. For factors that need to be reviewed with regard to valuing the agencies, see the sidebar below. The optimum goal would be to merge the entities without either party contributing additional cash to equalize the shares of the new agency.

For example, if Agency A is worth $100,000, and Agency B is worth $75,000, and the parties want to have equal ownership, Agency B would have to contribute $25,000 in cash or other assets to equalize the contributions.

We value firms that are potential merger candidates no differently from the way we value them for any other purpose. The key is to reach a value that is acceptable to all of the parties because that creates the underlying basis for the new entity.

Once the projections indicate a merger will be financially prudent, and the parties have determined that they are interested in proceeding, they need to address the structure of the new entity.

Structure

There are several options that include one of the agencies' buying the other(s), forming a totally new entity into which both agencies would merge or forming a holding company that owns both of the existing organizations.

There is no best way to structure a merged entity. CPAs need to make recommendations based on the potential tax implications of the various options. Additionally, there may be different tax liabilities for each agency, depending on their individual circumstances and how the deal is structured.

However, one underlying feature of all of these structures is what the agencies are bringing to the table, in the form of value, at the time the merger takes place.

Many years ago, gross sales could be a general guideline with regard to structuring an agreement, but that has not been true for at least the past eight or 10 years. Revenue as well as the type of sales are now the most important criteria.

Further, if there are two agencies being merged, is it the intent of the parties to have equal ownership and/or equal voting rights?

Under many state corporate laws, minority stockholders can be protected through well-drafted bylaws, even if there are majority and a minority stockholders. However, we recommend the parties try to become equal stockholders at the time of the merger.

There also must be buy-sell agreements with possible funding by key-man life insurance in the event of the death of one of the partners as well as a mechanism to value the agency in the event of a dispute and possible buyout.

In some instances, clients want to keep their own ARC numbers, particularly if the separate locations are to be maintained. This does not maximize savings, but it might be feasible in some instances.

If one of the agencies has contracts with a year or less to run, this type of structure will address those issues. It might be possible to form a holding company that will not have ARC appointments but, again, allow each individual agency to hold its own.

The holding company would then be controlled by the owners of the merged agencies in a stock split to be determined. Most arrangements will require ARC approval, either for a new entity or a change in ownership of an existing entity; that is not a major issue but merely one that may need to be addressed, depending on the structure selected.

The agencies also need to determine what the new entity will be called. There are advantages and disadvantages to selecting a new name and retaining the good will that exists from the current names.

One option is to use a new name/old name for some period of time and gradually phase out the old name to ultimately reflect the new business enterprise.

As indicated at the beginning of this series, many agencies are exploring the possibility of merging in order to strengthen their position for the future.

There is no guarantee that a merger will be successful, but if the agencies go forward with a merger after doing their homework regarding the issues that need to be reviewed, they have a much better possibility of success.

Jeffrey R. Miller is a travel industry attorney based in Ellicott City, Md. He represents travel agents, consortia and corporations on industry-related matters.

Points to consider when determining agency value

Some of the factors that need to be reviewed with regard to valuing agencies in a merger plan include:

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