Whilst many business owners are familiar with the technicalities of a joint venture, this may cause them to become lax when setting up a new joint venture, especially when with partners outside of their normal operations.
Pre-joint venture
In the early stage of the joint venture one may argue whether there is actually a need to form a structured venture, and whether a letter of intent may be suitable at the initial stages. This will allow the parties to start bringing together the necessary assets, intellectual property, and other aspects to commence the joint venture. Thus, they will only form the joint venture in a corporate structure when there is a stronger indication that it will have tangible results.
Clear purpose
The joint venture needs to have a clear and preferably narrow purpose, for example, “the development of a shopping mall on 62nd Street”. This will leave little room for interpretation between the various parties, and also will narrow the probability of a conflict of interest between the various members and their current interests. Whilst the joint venture may have a clear purpose, the various parties must also be open to a possible new opportunities that may arise or possibly their venture not providing satisfactory results. For example, in future, the shopping mall may be better utilised as office space, this is deviating from the original purpose, and the various parties need to discuss and agree whether to follow this course of action, consider other suggestions for the real estate, or possibly even dissolving the joint venture since it is going beyond its intended remit.
Outside funding
Throughout the lifetime of the joint venture, the circumstances of the various joint venture parties will fluctuate and possibly change. Whilst all the original joint venture parties may have provided the initial capital, as the project developed, it may not have reached its cashflow goals. This may cause friction between the various parties as not all of them may be in a comfortable position to finance the operations from their own funds. In addition, there may be the argument that the joint entity should be able to stand on its and not need further funding from its current shareholders. Thus discussions may arise of whether the entity should go for debt financing, or possibly the original shareholders dilute some of their holdings and bring in another party with fresh finance.
Management of the venture
It is to be considered whether one of the joint venture partners will be responsible for the venture, or whether the venture will employ its own personnel. In order to avoid conflict of interest it is often recommended that the joint venture employs its own separate personnel. Thus you avoid any accusations that the operating party is not giving the venture its best personnel to run the operation, especially should it not be operating at its optimum.
Decision making deadlock
A number of agreements have clauses inserted that allow that certain decisions require a higher shareholder majority to pass, for example, the annual budget needs to reach a 70% threshold to pass. Should deadlock ensue, their must be provisions to unwind the impasse. Otherwise, the parties may face a situation where a party may structure a deadlock on an issue to trigger a purchase or sale.
Remedies for parties failing to meet their obligations
The joint venture parties may wish to include a number of clauses in relation to when the parties are unable to fulfil their obligations. Some examples include;
- a purchase right that forces out the breaching party,
- a loss to voting rights,
- loss of the right to appoint members to the management team,
- reduction in the breaching member’s shareholding
Extent to which members can compete against the joint venture
Certain clauses may be included in the agreement that limit the parties rights to employ any of the venture’s employees to their separate companies, unless agreed upon by the other members. The agreement may state that the the parties are not allowed to set up a competing business in the surrounding geographic area, and the penalties one will face if this clause is breached. Another consideration is whether the non-compete clause is still applicable should a party exit the joint venture.
Dealings with the joint venture
Should any of the individual joint venture parties have separate dealings with the joint venture, then these would need to be on an arm’s length basis similar to which should a third party would have undertaken the service. As beneficial terms to one of the parties comes at the expense of the other joint venture partners.
Exit
Carefully consider what can happen if one of the partners decides they want to exit the venture, especially if their contribution was vital to the overall success of the venture. In addition, what is the final exit point for the enterprise, for example, would they consider listing the joint venture, or possibly selling it to a larger competitor. There might also be a right of first refusal should a third party approach to acquire the venture and one of the partners has first preference to match the terms.
Conclusion
The above describes some of the possible clauses that may need to be considered when forming a joint venture. Each joint venture has its own attributes and these must be carefully thought through when drafting the agreement.
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