What is a joint venture? Why might a business enter into one? How can a business set up a joint venture?
This article will introduce you to the fundamentals of a joint venture: its definition, common rationale, comparisons between other business arrangements, the planning process and how to draft a joint venture agreement (JVA).
Key Takeaways
- Joint ventures are business arrangements between two or more parties where they combine their assets and resources for a new business activity.
- Joint ventures are strategic and resilient compared to mergers and acquisitions in light of recent geopolitical developments,
- A holistic approach to business is crucial for the success of a joint venture; it involves due diligence, analysis of business partners competencies, resources and limitations, and a business plan tailored to the common business activities and level of integration between the parties.
- There are three common legal structures of a joint venture: equity joint ventures, partnership-based joint ventures (including limited partnerships and limited liability partnerships), and contractual joint ventures.
- JVAs govern the structure and the activities of the joint venture; it must reflect the thorough risk assessments, due diligence, business plans, and planned exit strategy conducted prior to its draft.
Table of Contents
1. Joint Venture (JV): Definition, Common Rationales, and Growing Trends
2. Planning the Joint Venture
- Factors of a Successful Joint Venture
- Purpose and Objectives of the Joint Venture
- Scope of the Joint Venture
- Due Diligence: Background of Your Business Partner(s)
- Structures of Joint Ventures
3. Joint Venture Agreements (JVA)
- Terms of a Joint Venture Agreement
- Draft Your Joint Venture Agreement with DocLegal.AI
- Negotiating Joint Venture Arrangements: Checklist
4. Joint Venture Exit Strategies
5. Conclusion
6. Frequently Asked Questions (FAQ)
Joint Venture (JV): Definition, Common Rationales, and Growing Trends
Definition. A joint venture is a business arrangement where two or more parties agree to combine their assets and resources with the aim of working towards or beginning a particular business activity.
Common reasons for choosing a joint venture.
- Access to international/foreign/challenging local markets
- Access to technology, shared resources and responsibilities
- Access to new capital and assets
- Drive a staged exit and buyout
- Satisfy regulatory requirements
- Synergy benefits
- Potential economies of scale
- Risk Mitigation
- Political Sensitivity
Growing trends. With recent geopolitical paradigms, joint ventures are perceived as a more resilient and effective method for capability sharing, risk management, and operational efficacy than mergers and acquisitions. The following sectors, as Forbes writers Bhargava and Bamford note, are receptive to joint ventures:
- Automotive
- Industrial
- Aerospace and defence
- Chemicals
- Oil and gas
- Mining
Planning the Joint Venture
Factors of a Successful Joint Venture
Joint ventures are prone to poor governance and can be tricky to manage. Here are some tips on making sure your joint venture is set up for success:
- Consider entering traditionally closed markets
- Take advantage of the diverse capabilities of all the business partners involved
- Set clear objectives for parent company governance, dispute resolution, and exit strategy
- Orient the operations of the joint venture based on a shared business strategy
- Proactively decided the culture of the joint venture
It is typical for joint ventures to be used as a mechanism to enter a foreign market. Here are some specific tips for cross-border joint ventures:
- Explore all possible geographies, and choose the most geo-politically appropriate option
- Develop robust governance, including legal and non-legal protection mechanisms
- Develop clear exit strategies for both parties involved
Non-legal Protection Mechanisms for Joint Ventures
With rising geopolitical tensions, non-legal protection mechanisms for joint ventures have become more important than ever. Following the Boston Consulting Group Joint Venture Survey in 2023, here are some of the most popular modes non-legal protection amongst joint venture partners:
- Restriction of IP access
- Parent customer/supplier agreements
- Government relationships
- Restriction of material access
- Escrow accounts
Adopting the above methods of protection in connection with robust legal documents and business strategies will set your joint venture up for success.
Purpose and Objective of the Joint Venture
What do you want to achieve?
First, you should decide on what you want to accomplish through the joint venture.
You will have to determine (with your business partner(s)) the specifics of the business venture:
- Where will you be doing the business?
- How will you be doing it?
- What are the main business goals?
Aim to be as specific and detailed as possible so that all the parties in the joint venture are informed.
Do you need a Joint Venture?
Above all, at this stage, you should consider if a joint venture is the most strategic/value-creating option for your business. Is a joint venture the right type of arrangement considering the purpose or relationship? Would other alternatives suffice?
For example:
- Co-operation agreement
- Research and development agreement
- Licence or franchise agreement
- Distribution or agency agreement
- Supply of goods or services contract
- Merger or acquisition
Scope of the Joint Venture
Another important item to consider is the scope of the joint venture. If you have an existing business, it is important to ensure that the joint venture does not compete with or encroach on it.
Consider implications of its scope in connection with:
- Any activities the joint venture expressly intends to do or refrain from doing
- Corporate opportunity and potential conflicts with each party’s other businesses
- Any core technology or other intellectual property to be transferred or granted
- Other intercorporate arrangements that will be required for the joint venture to operate
Due Diligence: Background of Your Business Partner
The Importance of Due Diligence
If you do decide to proceed with a joint venture, you ought to do your due diligence by researching the partner/company you plan to work with to ensure their trustworthiness and capabilities. Here are some areas to carry out due diligence for as a starting point:
- Financials and credit status
- Technological and operational capabilities
- Previous performance in other JVs
- Values and visions
- ESG commitments
- Potential risks associated with their business (e.g. pre existing obligations, large amounts of outstanding litigation)
Foreign Business Partners
If your partner is from a foreign country, remember to take the time to learn the culture and business etiquette of their country. Keep an open mind and learn about the differences between you and your partner’s cultural values and perspectives to avoid unexpected disagreements that stem from cultural differences between you and your partner.
You should also aim to identify any jurisdictional differences in requirements regarding operative legal documents and overall governance of joint ventures.
Structure: Equity Joint Venture, Partnership or Contractual Joint Venture
Joint ventures exist in various structures designed for different purposes (e.g. capability-sharing, operational efficacy, and risk-sharing). The most common legal structures are:
- Equity Joint Venture/ Joint Venture Companies (JVC);
- Partnerships;
- Limited partnerships (LP);
- Limited liability partnerships (LLP); and
- Contractual Joint Venture
It is important to be clear on the structure of the joint venture as each structure will require a different form of drafting, following the relevant legal agreements and procedures that apply. You may refer to the table below to quickly identify which joint venture structure would best suit your business needs.
Equity Joint Venture / Joint Venture Company (JVC)
- Liabilities of the parties are limited to their equity contributions
- Separate legal entity(a JVC) provides more formality and structure
- More complex and costly to set up and maintain
- Parties have to agree on respective equity contributions and ownership
Partnership
- Tax-efficient structure
- Simpler to set up and maintain than a JVC
- Partners bear unlimited liabilities
- Partnership is not a separate legal entity
Limited Partnership (LP)
- Limited partners have limited liability
- LPs are a popular option amongst investment vehicles (for passive investors)
- At least one partner (general partner) must bear unlimited liability
- Limited partners are not part of the management
- Partnership is not a separate legal entity
Limited Liability Partnership (LLP)
- All partners can participated in the management of the partnership
- Partners bear limited liabilities (ie. partners will not be held liable for the acts of other partners)
- LLPs that are built amongst a group of professionals build economies of scale
- Partners can be brought in and let out of the LLP, allowing for governance and operational flexibility
- Roles and responsibilities of partners and other members of the LLP are not as clearly defined as those in a LP
Contractual Joint Venture
- Suitable for one-off single-purpose projects (e.g. R&D cooperation)
- No need to set up a separate legal entity: contractual joint ventures are unincorporated and based on cooperation agreements.
- Lacks the formality and structure of a separate legal entity
- Parties have to rely on the contract to govern their relationship
Deciding which joint venture structure to adopt for the joint venture will also depend on the following factors:
- Tax
- Regulatory issues
- Jurisdictional matters
- Governance of joint venture
- Formalities (publicity and administration) etc.
Joint Venture Agreements (JVA)
The JVA dictates the structure and governance of the joint venture. However, the JVA can also protect your business during the operations of the joint venture, namely, it can:
- Minimise/prevent risks associated with your partner(s)’ business
- Minimising the effect of pre existing obligations of your partners business on your own business
Additionally, you may consider utilising the JVA as an instrument to hold your business accountable to its ESG commitments.
Terms of a Joint Venture Agreement
As a starting point, here are some key matters that need to be in the agreement:
Objectives and Business Plan. The agreement should clarify the objectives and business plan of the joint venture.
Joint Venture Structure. It should address issues such as the ownership structure, voting rights, governing body, the legal system, etc. The question of 'what are the duties of each party and what are their rights?' needs to be addressed.
Composition of the Team: Management, Operations and Accounting. It should also establish the composition of the business’ management team and the key players. This includes the company secretary, board members, executive team members, etc. It is also important to state the operations and accounting responsibilities of each partner. For instance, who will be running the day-to-day operations and who does the bookkeeping and record-keeping?
Financial Contributions. In addition to the financial contributions of each party, the joint venture agreement should also specify how the liabilities under the guarantee/bond/indemnities will be shared by the parties.
Intellectual property contributions. The plan should also indicate the intellectual property contributions of each partner for the joint venture and how these intellectual property rights are to be shared/owned by respective partners.
Profits and Losses. It is also important to clearly allocate the profits and losses of the joint venture. What/how much will each partner get from the joint venture? What percentage of the losses will each partner be liable for? Is it all equally shared or does it depend on the value that each partner is bringing to the table?
Liabilities. The plan should also mark out the liabilities of each partner and their relevant indemnities. Parties need to decide upfront whether any of them will be indemnified against all potential liabilities arising out of the joint venture agreement.
If a dispute does arise, parties to the joint venture are usually required by contract to provide information/evidence to defend third-party claims against other parties regardless of whether they are indemnified.
Dispute Resolution. The plan should also detail the dispute resolution procedure to be adopted when disputes do arise. Apart from court litigation, there are various other more efficient and less costly alternative dispute resolutions including arbitrations, mediations, negotiations, etc that you might want to consider.
It is important to be clear about which dispute resolution procedure should be prioritised so that even if disputes do arise, parties are able to settle their differences in a calm and agreed manner.
Insurance. Insurance is an important element to consider and include in the agreement, as after all, joint ventures are short-term business partnerships. It is crucial that parties are insured under an insurance plan that covers worker’s compensation, property insurance, risk insurance etc.
Parties should be clear on how the business project is to be insured and what type of insurance will be used and maintained throughout the business venture. It is also important to specify the buyer and maintainer of the various insurances involved in the project for clear record-keeping.
Termination. The plan should include details of the termination of the agreement. As mentioned, joint ventures are not long-term agreements, but short-termed business ventures with a specific and defined goal, meaning that termination is something both parties should anticipate and be well prepared for.
To end the business partnership on a good note, it is important to spell out the details of the end of the contractual relationship in the agreement.
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Negotiating Joint Venture Arrangements: Checklist
The following are preliminary questions you must consider when negotiating with potential partner(s) of the joint venture:
Intellectual Property
- What will be the name of the joint venture?
- Are there any restrictions on the use of the name?
- How will any existing brands be valued/protected?
- How will any new IP be dealt with?
Due Diligence
- Is any due diligence to be completed before the joint venture is effective?
- Is it a new business or would existing businesses be transferred to the joint venture?
- Are there any restrictions in existing agreements?
- Who will need to consent/provide their approval?
- Check the existing companies' constitutions for any transfer.
Location and Facilities
- Where will the joint venture carry on business?
- Whose premises?
- New premises?
- Who will own the premises?
- Will landlord consent be required?
- Will it be necessary for the joint venture to continue to use any facilities of the existing entities?
- Any contractual arrangements in place?
Confidentiality
- Will confidential information be disclosed during negotiations?
- Has a confidentiality agreement or information exchange agreement been put in place?
Exclusivity
- Do the parties want to have a period of exclusive negotiation?
- Is each party still free, pending its signature, to negotiate with third parties?
Duration
- How long will the joint venture be?
Risks
- Will indemnities/warranties be given?
- Should they be capped?
Feasibility
- Has a feasibility study or business plan been prepared?
- MOU / LOI Is a letter of intent or memorandum of understanding appropriate to establish points of principle?
Authorisation / Consent
- What material authorisations, consents, licenses or other conditions precedent will be required for the joint venture to commence?
Law and Jurisdiction
- In which jurisdictions will the joint venture operate?
- What governing law should apply?
Joint Ventures Exit Strategies
Dissolution of Joint Ventures
Parties may exit a joint venture under the following conditions:
- The duration of the joint venture as set out in the JVA has come to an end and the parties have accrued the maximum amount of benefits from that business arrangement.
- The business objectives of at least one party deviates from the objectives of the joint venture.
- It would be impossible to continue the joint venture due to legal, financial or operational issues affecting one or all parties involved.
- The anticipated benefits from the joint venture have not come into fruition and the partnership has lost its strategic value for at least one party.
- Economic or political developments which adversely affect the profitability of the joint venture for at least one party.
Duality and Importance of Exit Strategies
Discussing exit strategies is a proactive measure you and your partner(s) can take for your joint venture. Exit strategies can facilitate the completion of the joint venture, marking the attainment and collective commercial success of all parties involved. They can also mitigate events harmful to the joint venture. To that end, parties should always discuss the exit strategy before starting the operational phase of their joint venture.
Here are some examples of changes that may warrant the dissolution of your joint venture:
- New competition
- Loss of key clients
- New regulatory changes
- Labour, resources, and equipment shortages
- Sensitive geopolitical developments
Generally, clauses relating to the exit strategy in the JVA should cover termination protocols, the rights for each party in the exit process and valuation considerations. Parties should also consider the following situations when drafting the exit strategy into the JVA:
- Sale to a third party
- Sale to one of the participants
- Separation of the organisation with sharing of assets to participants
Conclusion
Having a joint venture is an important decision that should not be considered lightly. Before making such an important business decision, remember to think carefully about the purpose, plan, and details of the joint venture, choose your partner carefully and draft a detailed and comprehensive joint venture agreement such that you and your partner’s interests are protected as well as possible.
Frequently Asked Questions (FAQ)
What are the stages in the JV life cycle?
There are four stages in the JV life cycle:
- Planning: Decide the purpose, scope and objectives of the joint venture.
- Formation: Design the business and legal structure of the joint venture, including drafting the JVA.
- Operation: Commercial activities of the JV and its management commence.
- Dissolution: The end of the JV.
What is the difference between a shareholders agreement and an articles of association?
The Shareholders Agreement is a legally binding document that outlines the terms and conditions governing the relationship between the shareholders of a company. The purpose of this agreement is to set out the rights, obligations, and responsibilities of the shareholders in the company.
Conversely, Articles of Association is a comprehensive legal document that establishes the structure, responsibilities, and guidelines for a joint venture. This agreement serves as a critical framework, shaping the internal workings of the joint venture and outlining the rights and obligations of each member.
Does a shareholders agreement override articles of association?
It depends. A shareholders agreement may override articles of association if it includes a supremacy clause. In the alternative, certain jurisdictions may have regulations that make shareholders agreements more powerful than articles of association. Accordingly, it is good practice to do the following:
- Research your jurisdictions’s requirements and regulations about shareholders agreements and articles of association. What statutory provisions, if any, regulate shareholders agreement and articles of association? Any mentions/procedures for conflicts between the shareholders agreement and articles of association?
- Ensure consistency between the shareholders agreement and articles of association during the drafting process. Ideally, both documents should be read and administered in tandem because they collectively govern the operations, rights and obligations relating to the joint venture. As such, make sure that both documents are drafted so that they complement each other.
What are the limitations of articles of association?
These are the following limitations of articles of association:
- They cannot be altered to increase the liability of any party to the joint venture.
- Any amendments to an article of association cannot have a retrospective effect.
- All amendments must benefit the joint venture and be made in good faith.
- Articles of association must comply with the governing laws of the joint venture including public policy.
Authoritative Links
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[1]https://www.investopedia.com/terms/j/jointventure.asp
[3]https://kpmg.com/kpmg-us/content/dam/kpmg/pdf/2023/success-joint-ventures.pdf
[5]https://hbr.org/2021/04/research-joint-ventures-that-keep-evolving-perform-better
[6]https://corporatefinanceinstitute.com/resources/valuation/what-is-joint-venture-jv/
[8]https://www.weforum.org/agenda/2024/05/global-joint-ventures-can-thrive-times-turmoil/
[9]https://www.investopedia.com/articles/investing/090214/limited-liability-partnership-llp-basics.asp
