By Barney Northover and Kenji Batchelor at lawyers VWV.
Much has been made of Covid acting as both disruptor and accelerator. Since March 2020, independent schools have changed and adapted in ways we would have previously thought impossible. They have navigated their way through multiple lockdowns, delivered remote teaching and met new regulatory requirements. They have sought to balance their books in many cases, in the short term, by introducing temporary fee discounts and making use of the furlough scheme.
But notwithstanding the hope offered by the arrival of effective vaccines, more challenges lie ahead. The impact of the recession on pupil rolls remains unknown. This means difficult decisions on TPS will need to be made. The threat of tax changes lingers as politicians seek to balance the nation’s finances. Brexit will also have an impact on the UK’s relationship with EU markets. The issue of the affordability of education in the sector also continues to loom large. Schools need to remain vigilant and manage their situation carefully.
Changing with the times
Schools have always needed to change with the times in response to shifting demand for, and supply of, an independent education. There have always been mergers, acquisitions and disposals of schools and there are a very many success stories. Even before the financial difficulties induced by the Covid crisis, it was increasingly seen as a good strategy to join with other schools within a group. We have seen this in the state sector, where academies have been encouraged to federate in multi-academy trusts, and in our own sector we have seen the growth of local and national groups of both commercial and charitable schools.
“In the current crisis, many governors and proprietors will now be considering whether their school should join with others.”
One of the drivers for this trend is the need to take advantage of economies of scale and offer protection from financial shocks of the type we are now experiencing. In the current crisis, many governors and proprietors will now be considering whether their school should join with others. This could be either to ensure their own survival or to offer shelter and protection to other schools, particularly those which are feeders or complement their own school’s educational mission.
Why and when to consider a merger or acquisition
The decision to consider a merger, acquisition or disposal can be one of strategic opportunity or a solution to a challenge. One key message in this article is to undertake a “health-check” on the school. This may uncover different drivers for schools to consider when contemplating strategic change of this nature. Such drivers can include:
- over-supply of school places in your area as a result of demographic changes
- competition from other independent schools or the state sector
- under-investment in previous years
- rising costs and the need to realise economies of scale
- retirement of key staff
- parental demand for a wider curriculum, more facilities, co-education, a wider age range, or simply for a larger school
- affordability challenges and downward pressure on fees
If there are warning signs, the key is to act on them early. Get to know the market. Understand local and national demographics. Recognise economic trends and set realistic expectations on projected pupil numbers and income. In the case of proprietary schools, be aware of looming succession issues.
It takes courage for leaders and governors to initiate the conversation, but it is a wise school that looks at the area it serves and determines that, if competing local schools combine, they may be better placed to meet the needs of the community and secure their long-term future. A similarly difficult conversation about the status of a school – in particular whether a charity remains best-placed to operate a school or whether a for-profit operator may be better placed to take it forward – may be necessary to ensure the future success and longevity of a school.
Unfortunately for some, the pressure and pace of change will leave little option but face permanent closure, but it should be a last resort having considered all other routes – including mergers, acquisitions and other strategic projects – first.
How to prepare
Once a school has identified its strengths and weaknesses and decided it is in its best interests to explore strategic opportunities, we would recommend that the leadership team contemplating a merger, acquisition or disposal take independent professional advice, including from lawyers, accountants, surveyors and PR advisers.
“Unfortunately for some, the pressure and pace of change will leave little option but face permanent closure.”
You should also draw up a descriptive profile of the school and identify clear objectives and benefits which are sought from a merger, acquisition or sale. It can be helpful to seek professional support if you need a “match-making” go-between. When you have a prospective school partner or partners in mind, an early action should be to draw up a feasibility study which:
- assesses the present financial position of each school and, in particular, the level of debt and other liabilities
- identifies future demographic, social and market trends
- provides an initial view of how complementary the cultures of the prospective partner schools may be, including senior management teams, common rooms and parent bodies
- considers the composition of the new Governing body
- assesses the pupil roll of each school at the present date and sets a realistic fallout rate that can be withstood
How it might look
A wide range of business models might be contemplated, each involving different levels of complexity. For example, if schools combine together in a group where each is operated as a separate business under common ownership within a family of schools, there may be minimal day-to-day impact on staff, parents and pupils. On the other hand, the merger of two schools on a single site will inevitably be more emotive and involve greater upheaval for the stakeholders.
“Even between charities, ‘merger’ is often a euphemism for ‘take-over’; invariably one of the merger partners will be more dominant.”
There are also differences between commercial transactions and charity mergers. In an acquisition/disposal, one party (the “Buyer”) will acquire from the other (the “Seller”) the target school’s assets for a price. On occasions, an acquisition may take the form of a share sale. Even between charities, “merger” is often a euphemism for “take-over”; invariably one of the merger partners will be more dominant in terms of size, control, asset value, geographical position, market strengths or some other key factor. The legal considerations for a charitable merger and a school acquisition are quite different in terms of the approach, timetable, structure and legal processes. There are, however, similarities in the practical approach required.
Initial discussions are likely to be at a chairman-to-chairman level. Before proceeding beyond this stage, the parties should enter into a confidentiality agreement and an exclusivity agreement. The former will ensure that the discussions themselves – plus any commercially sensitive information released during the due diligence process – remain confidential. The latter will ensure that the negotiations are exclusive of others. Once the parties have reached broad agreement, they should enter into Heads of Terms which set out the agreed commercial terms and the proposed legal structure.
Parties to a merger of charities should consider, negotiate and agree a Memorandum of Understanding which sets out a number of “soft issues” in relation to the future operation of the merged school, such as its ethos, etc.
Due diligence is a vital step in any transaction. It is a process undertaken in order to find out as much about the other party as possible in order to assess whether sufficient “value” exists to justify proceeding. It is also designed to ascertain whether there are any hidden liabilities and identify matters requiring further investigation. Ultimately, the exercise will determine whether or not to proceed. In the case of a merger between two charitable schools the due diligence process should be “two way”.
Each party will want to find out as much about the other as possible: one party will require some certainty that the assets of the “target” school comfortably exceed its liabilities and the other party will want to be sure that it is transferring assets to an undertaking that is viable and commercially sound. In addition, an investigation will need to be undertaken to ensure that the merger is possible under charity law. In the case of an acquisition, the process will be “one way” (only being undertaken by the buyer on the target school) and will be used to assess whether it is paying a fair price.
If, having undertaken the process, the buyer discovers facts or circumstances that cause it concern, it may seek to include specific provisions in any contract by means of warranties, indemnities and/or financial retentions) to provide it with protection. Or it may seek a reduction in the purchase price.
Communication and PR
A good communication strategy is one of the key critical factors in determining the success of the merger. It is essential that the head, governors or proprietor present a consistently positive outlook to staff, parents and pupils in order to “win hearts and minds”. The success of a merger can be jeopardised if the positions of parents, pupils and staff are not properly considered and addressed. We recommend appointing a specialist public relations consultant to assist in developing and promoting positive key messages about the merger.
The legal agreement
A legal agreement will need to be prepared to reflect the skeleton terms agreed in the Heads of Terms or Memorandum of Understanding. There is different terminology for this agreement which may be an Asset Purchase Agreement or Share Purchase Agreement in the case of an acquisition/disposal and a Merger Deed or Merger Agreement in the case of a merger between charities.
At a suitable point, provided that the documentation has been agreed, the legal agreement can be exchanged subject to a number of conditions. In our experience this is the best time to announce the merger as the deal has already been ‘done’ and cannot readily be unravelled.
Once the agreed conditions have been met (these are likely to include DfE consent and TUPE consultations and possibly Charity Commission approval), legal completion can take place and the legal title in the assets will be transferred.
Transactions between schools have become common in the independent school sector but nevertheless many school leaders will only be involved in such a project once. To help schools navigate the path and avoid the traps, VWV has worked with the ISC associations to produce a resource pack with more than 50 pages of guidance, checklists, timetables and templates. The pack was last updated in October 2020 to account for the challenges of the Covid crisis and is available free of charge from the ISC, your school associations or from VWV. ●
This article first appeared in the Independent School Management Plus termly print edition.