Since 2008, Pricewaterhouse Coopers LLP, the Institute of Fundraising and the Charity Finance Group have canvassed the views of charity finance professionals and fundraisers, through regular surveys, on the impact of the economic and funding environment on their sector.
The results of the latest survey, carried out in October and November 2011, have been published in a report entitled "Managing charities in the new normal – A perfect storm?", with the "new normal" refering to the major strategic changes taking place in the sector to adapt to challenging economic pressures and the "perfect storm" to the aggravating effects of the increased demand for services against a backdrop of reduced funding.
The report indicates that the sector remains vulnerable, with figures suggesting that charities are considering the types of efficiency and cost-reduction driven actions that the private sector took in 2009 and 2010, such as, pay freezes and reduction in staff numbers.
The report also highlights the value of effective financial management practices and innovative actions, most notably, mergers, collaborative working and outsourcing opportunities. These options offer potential cost reductions, through reduced overheads, joint-bidding for funding and in some cases, VAT relief, but have rarely been taken up by charities. Concerns about independence, identity and public recognition are key drivers in the sector, often discouraging charities to contemplate joint working, particular mergers, which are seen more as a last resort in tough times than an opportunity for growth and capacity building.
Notwithstanding this general position, 20% of charities responding to the survey confirmed that they were actively considering a merger – which is a notable increase from the 12% who responded in the same way in last year's survey. Merger negotiations are clearly much more firmly on the agenda. In this spirit, we discuss below the key considerations that charities should be aware of in merger discussions.
Public confidence in the purposes and activities of a charity is fundamental to distinguishing the sector from the profit-driven world of private enterprise. It is therefore of paramount importance that proposed merger partners are satisfied that they will continue to serve their purposes and respective beneficiaries post-merger. Key to this will be how the merger partners intend to synthesise their structure, operations, staff, volunteers (including their boards of trustees) and, more generally, their "culture".
There is no one way to ensure a perfect cultural fit, but detailed consideration should be given to how the partners envisage the merged entity will operate and the changes that may need to be put in place in advance, to prepare each partner organisation for the merger.
The coming together of two or more entities will trigger a number of consequential implications for each partner charity's existing arrangements.
In view of this, a process of due diligence should be undertaken to identify and assess any risk factors present. Key risks are those that present a blockage to a merger or which may require time and expense to address. Essentially, the key is to 'know your partner' well in advance of the merger.
A process of due diligence usually involves the preparation of a questionnaire to identify where possible risk factors might lie. A review of any documentation identified as relevant in the questionnaire response will be undertaken. By way of illustration, a list of potential risk categories is set out below:
- Constitutional - A review of the partners' constitutional and governance arrangements should be undertaken to identify any barriers to the merger;
- Finance - It is important to check the provisions of any loan or credit arrangements, security documentation and overdrafts. Lenders may well need to be approached for consent. A check of any existing charges registered with Companies House should be carried out;
- Contractual - a review of all of material contracts should be completed, including: any service level agreements; commercial leases; contractor arrangements; tender documentation; and any other project specific documentation. What will happen to the contracts if the organisation ceases to formally exist? Are they capable of being transferred? Do you need to seek the other party's consent?
- Employees - A key aspect of the merger process will be having regard to the Transfer of Undertakings (Protection of Employment) Regulations 2006 ("TUPE"). TUPE aims to protect employees whose business is being transferred to another business. The provisions of TUPE will be relevant in any merger, on the basis that the business and undertakings of at least one of the partners will be transferred to a new entity. Certain obligations arise as a result, most notably, the obligation to consult with affected employees;
- Heritable Property - partners' title to land and buildings should be checked, primarily to identify whether any correctional work is required before the new merged entity takes title to such property; and
- Consents/approvals - Aside from OSCR (which is noted further below) and potentially funders, it will be important to identify whether any other consents or approvals are required from third parties, before the merger takes place.
Engaging with Stakeholders
Most mergers will require the formal consent of each partners' members, which will inevitably involve reasonably in-depth consultation, in order to explain why the merger is considered to be in the best interests of the charity, and recruit support for the proposal. The specific rules around member consent will vary depending on the governance arrangements regulating each partner charity, but generally this will involve at least 75% of the members present and voting approving the proposal.
Where formal consent is not required, it is still good practice to engage with members, beneficiaries and other stakeholders, to ensure continuity of public support, confidence and involvement in the merged body – all of which feed-in to a charity's culture.
Regulatory involvement is also a key aspect of any merger proposal, and the Office of the Scottish Charity Regulator ("OSCR") should be consulted at an early stage in the negotiations, to avoid any delays or road blocks further into the process. OSCR work to set turnaround times and these should be taken into account when devising the timescales for the completion of the merger.
Once the merger has taken place, HMRC should be notified, for tax relief purposes.
In the context of working harder for less income, many charities are looking to increase their fundraising activities, reduce labour costs and make more radical strategic changes, such as collaborative working and merging with other like-minded charities.
The increase in the number of charities considering merger is perhaps an indication of the need to control the spiralling costs they face. It may, on the other hand, also suggest willingness in the sector to adapt and seize opportunities. It is, of course, likely that there is a strong element of both at work.