Legal fees are one of the largest transaction costs faced by buyers in the purchase of a business, and are notoriously difficult to estimate or predict. In a typical hourly billing model, clients have limited ability to predict or influence legal fees. The exception is those with greater communication needs, who can generally, expect higher bills, accounting for extra calls and emails. The bill is simply the hourly rate of the staff involved times the number of hours spent – and the client usually doesn’t find out until after services are provided and they owe money. Lawyers are historically averse to providing any kind of estimate, lest it set client expectations in the wrong direction.
A common rule of thumb used by buyers and transaction advisors for evaluating and planning the costs of legal services for M&A transactions are legal fees as a percent of the transaction value. This can make a certain intuitive sense, as time needs typically scale with deal size. It works well for deals in the middle 50 percent but offers much less confidence outside of that – especially for small deals. Legal fees are typically a higher percentage of deal value in smaller deals because there is a basic set of legal functions that a responsible lawyer must carry out, whether the deal size is a hundred thousand dollars or a hundred million dollars. Keep in mind that the transaction size model also doesn’t account for transactions with greater complexity or specialized legal needs, factors which may be hidden and not apparent to less experienced business buyers.
A common percent of transaction size estimate is something like:
$1 Million to $15 Million
For smaller deals, legal fees typically range from 0.5% to 3% of the deal value. This higher percentage reflects the relatively high fixed costs of legal work in proportion to the smaller transaction value.
$15 - $100 Million
As the size of the deal increases, legal fees tend to decrease as a percentage of the overall valuation. For these deals, legal fees generally range from 0.3% to 1% of the deal value. The larger and more complex the deal, the lower the percentage, although the absolute legal fees will be higher.
This model leaves a lot of range but does provide a starting point for estimating cost. By considering the range of factors that affect M&A legal fees such as deal size, complexity, and the scope of due diligence, buyers can anticipate and plan for legal expenses.
What about Fixed Fee?
A small but growing trend in mergers and acquisitions is fixed fee services. While this doesn’t work for every deal, it works quite well for many deals involving privately owned companies with a price tag of 1 – 15 million dollars.
The goal of developing a fixed fee is not so much to reduce overall legal fees as it is to provide a confident analysis of the ultimate fee considering the factors above. Done correctly, a fixed fee can avoid mid-project price shocks and allow the client to anticipate, plan for, and budget legal fees, rather than try to work around a mystery number. Fixed fee projects are often broken into phases, providing an estimate of timing on the payments and providing the client protection against excess legal fees in the event the transaction falls apart.
The fixed fee M&A trend is relatively new, so common industry standards and practices haven’t developed around it, but commitment to a fixed fee requires legal service providers to use project planning, efficiency, communication, and process management tools not typical of the legal industry. These features align well with expectations of communication, trackability, and process transparency that business buyers and sellers are accustomed to in dealing with almost every other consumer facing industry. In our experience, client feedback has been very positive, especially among clients who have prior M&A experience.
Clients and advisors seeking greater insight into the transaction process, along with an enhanced ability to project and plan for legal fees may want to consider fixed fee M&A legal services.
For more information on Stock Legal’s fixed fee M&A process and pricing, don’t hesitate to reach out to our fixed fee legal team!
