Nonprofit Mergers: Common Risks

In response to the COVID-19 pandemic, the associated financial and social crises, and the rising racial justice movement, many nonprofits are looking at collaborations and mergers as a strategic response. But nonprofit leaders must understand at the outset the risks associated with such transactions. Following up on our recent post on motivations of nonprofits considering a merger (republished by Candid), we focus here on 10 common areas of risk associated with a merger. For purposes of this post, we simplify the idea of a merger as one between two public charities.

A nonprofit may consider the following merger risks, among others:

Financial risks

  • acceptance of all of the debts, liabilities, and obligations of the other party, including any hidden or unripened liabilities (e.g., future lawsuit for a past act or omission resulting in harm);
  • costs associated with the merger, including for pre-merger due diligence and post-merger integration;
  • cash flow issues post-merger;
  • weak internal controls of the other party;

Culture risks

  • clash in values, including with respect to diversity, equity, and inclusion;
  • differing ideas on the sharing of power and leadership styles;
  • clash in workplace customs, preservation of the disappearing corporation’s legacy, communication styles, formality-informality in dress;
  • management of differences in how clients, beneficiaries, and others are treated;

Programmatic risks

  • changes to programs in the integration, including those related to the underlying beliefs that supported the past methodologies;
  • possible termination of certain programs of the disappearing corporation, including post-merger;

Leadership risks

  • removal or change in status of executive or other key managers inconsistent with their desires;
  • loss of board members of the disappearing corporation, some of whom may be extremely valuable and/or opposed to the merger;

Employee risks

  • disgruntled terminated employees or reassigned employees and the possibility of wrongful termination or other employment claims;
  • other known and unknown employee-related claims of the other party;
  • unhappy employees and the resulting reduction in productivity, job satisfaction, and recruitment and retention;
  • unionizing activities (which may result in better employee benefits but at a cost);
  • wrongful classification of employees as independent contractors by the other party;

Marketing / Goodwill risks

  • bad publicity originating from those who object to the merger or others who may be opposed to the works or advocacy of either corporation;
  • weakened branding if the surviving corporation’s brand gets diluted covering continuing programs and activities of the disappearing corporation;
  • lost or diminished branding associated with the disappearing corporation’s brand;

Fundraising risks

  • loss of support from some donors or funders to the disappearing corporation;
  • loss of support from other donors opposed to the merger;
  • reduction in support from some donors or funders who used to support both organizations;
  • potential loss of bequests and other planned gifts intended for the disappearing corporation;
  • grant compliance issues of the other party;

Real estate risks

  • acceptance of liabilities and obligations of the other party relating to its real estate ownership and/or leases, including those resulting from environmental issues (e.g., hazardous waste) and safety issues;
  • local taxes (e.g., transfer taxes) that may apply when title of property moves from the disappearing corporation to the surviving corporation, even if both corporations were exempt from property taxes;

Contract and license risks

  • assumption of the contractual obligations of the other party and any liabilities that may arise from any past breaches;
  • breach of certain contracts if any notice provisions regarding a merger are not complied with;
  • termination of certain contracts that provide as a termination event an assignment or a change to the contracting party as a result of a merger;
  • termination of the disappearing corporation’s licenses, permits, certifications, and/or accreditations that may not be assumed by the surviving corporation;
  • any identified or unidentified partnership liability obligations of the other party;

Tax-exemption and public charity classification risks

  • acceptance of past compliance issues of the other party relating to tax-exemption and the consequences of its noncompliance;
  • change in the surviving corporation’s public support ratio or other public support factors, which may threaten to tip the charity into private foundation status;

Other risks

  • failure of the surviving (merged) corporation to be qualified and/or registered in states/jurisdictions in which the disappearing (merging) corporation operated and in which surviving corporation will newly operate;
  • insufficient insurance protection; and
  • inheritance of the other party’s problematic relationships with regulatory agencies or key political actors.

Additional Resources on the Blog

Nonprofit Mergers – Part 2: Step-by-Step

Nonprofit Mergers – Part 1: Basic Legal Considerations

Nonprofit Mergers – Due Diligence Items

CLE: Nonprofit M&A: Potential Benefits, Risks, and Alternatives