FCA and PRA regulated entities in a variety of sectors use consolidation to drive growth, promote innovation or take advantage of cost synergies. Scale and diversification are key drivers in the wealth management sector, and acquisitions can be very helpful in expanding access to specific asset classes, geographical locations, clients, and the expertise of key managers.
In this series of articles, we look at a range of aspects in M&A transactions which can affect value, for buyer or seller, and propose ways of addressing these in the commercial terms.
Our final article will look at business integration.
In this fourth article in our series, we look at the retention and incentivisation of key personnel in M&A.
Retention of key employees
Many businesses in this sector are "people" businesses, and the quality and engagement of employees is a critical part of ongoing business, and this becomes especially so when M&A is involved.
Getting key employees of a target on side is vital to integrating successfully and retaining clients. Failure to do so can lead to a target with unmotivated employees and quickly departing clients.
The first step is for the buyer to analyse who the “key employees” are from its perspective, which will be linked to the rationale for the deal. In general, those with relationships with key clients will be important to a successful transition. This is particularly important for an asset sale where the role of the front office can have a significant impact on client retention and client consent where this is needed.
Once this decision has been made, key employees should be incentivised under transitional and future plans, subject to the regulatory considerations set out below. Within the confines of confidentiality, they should be notified early on if possible. This incentivisation may be a combination of financial reward for completion of the transaction (and a successful transition of clients), which may be paid for by seller or buyer (or a combination), and future remuneration packages, which may also be linked to client retention over the period following the transaction. Usually, it is in both the seller’s and buyer’s interest to incentivise a successful transition and therefore there is scope for funding to be made available for this as part of the commercial deal.
Diligence should be undertaken to understand the seller’s wider incentive package (on an asset sale, this may need to be analysed in detail in respect of what must be offered to any employees who transfer under TUPE) to allow a buyer to offer something attractive to the key employees. These financial incentives should be factored into any decisions about price. Buyers should be careful when handling salary, bonus and other remuneration information regarding the target’s employees, although sellers will usually only make this data available subject to NDAs or with all non-essential information redacted.
Thought should also be given to integrating the core team of the buyer’s existing business with the key employees of the target as early as possible once a deal has been agreed. Where cost rationalisation is part of the transaction, understanding what this means for a deal structure, the timing, and the cost is important, as it too may have a bearing on the price structure early in the transaction.
Owners and key employees
Buyers that are acquiring smaller wealth managers should consider whether the sellers are also the key employees. In such a situation, the sellers will profit from the deal and may therefore be harder to incentivise during the interim between exchange and completion (when a sense that the deal is “done” may set in) and following completion.
Any issues following exchange can be mitigated by clear and well-defined controls on what can or cannot be done during the interim period in the transaction documents. These should be structured to provide contractual protection to the buyer against any decline in seller performance, and buyers may wish to negotiate a more hands-on role for themselves or a representative in the event of significant concerns about seller motivation.
Any more hands-on approach should be careful not to give control to the buyer pre-completion as that may cause a breach of the regulatory change in control regime. Therefore these provisions should be carefully considered.
Following completion, deferred consideration payments linked to the performance of the key employees, or the business as a whole, should be used to incentivise those sellers who will remain employed. Taking on sellers in a consulting capacity may allow a buyer to provide bespoke incentivisation to sellers while retaining their expertise for a set period.
A number of UK regulated firms (including private banks and the majority of wealth managers) are subject to the provisions of one or more “Remuneration Codes”. Such Codes are likely to affect the incentivisation of certain key employees, and the Codes contain rules around bonuses paid to certain employees. These include provisions that any guaranteed variable remuneration and retention bonuses should be exceptional, one-off, relevant within the context of the acquisition and, in certain cases, notified to the FCA. The payment of a retention award may also be made dependent on the individual meeting certain performance criteria that have been defined in advance.
Buyers will also likely need to ensure that there are arrangements for malus and clawback in place for guaranteed variable remuneration and retention bonuses, which may lessen the attractiveness of such incentivisation packages for key employees. Finally, buyers must ensure that they have considered the interests of all stakeholders, including shareholders, clients, and the regulator(s) as well as employees in their decision-making around remuneration. Consequently, buyers should ensure that any payments to employees are permissible under the relevant Remuneration Code(s), and advisers should be aware of this as a potential issue.
As part of any incentivisation offer, it is also worth considering the adequacy of any existing post-termination restrictive covenants in key employees’ contracts of employment. For example, if there is a wish to further bolster any such restrictions, it may be possible to do this as a quid pro quo for any incentivisation payment being made.
Particular care will, however, need to be taken in the context of any TUPE transfer. This is because under TUPE any variation to a transferring employee’s contractual terms is void if the sole or principal reason for the variation is the transfer (subject to certain limited exceptions). As a result, in a TUPE situation, if any changes to existing restrictive covenants are to be made and are to be valid, they are likely to need to be implemented via settlement agreements with the relevant individuals under which their employment is terminated, and they are then re-engaged under the new terms containing the bolstered restrictions. The settlement agreement can then, at the same time, provide for payment of any relevant incentivisation payment.
This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, June 2023