What are the key considerations when setting up a joint venture?
You own a business. You have a great idea for a new product or service but you don’t have all the skills, resources, or expertise needed to bring your idea to market. Rather than going on a lengthy (and potentially expensive) recruitment drive, you decide to partner with another organisation that has the complementary capabilities you need. There are different ways you can do this. One option is a joint venture (JV). Unlike a merger, a joint venture allows you to retain your own corporate identity. But it provides more structure and protection than a consortium, cooperative agreement, or other loose strategic partnership or alliance. What is a joint venture and why might organisations form one?
What is a joint venture?
Joint ventures are collaborative arrangements between two or more organisations or entities to pursue a specific business objective while maintaining their separate identities. They are usually formed to capitalise on each partner’s strengths for mutual benefit. Joint ventures can be established in any industry, including the not-for-profit sector, and for different purposes. The activities of the joint venture are often independent of the core business of each organisation, which continues undisturbed by the JV. This is in sharp contrast to a merger, where everything, from systems to policies and procedures, is usually impacted.
Why might a joint venture be formed?
There are many reasons why companies might form a JV…too many to list here exhaustively, but examples include:
- Companies in the same industry might form a JV to share costs, expand market reach, access new technologies, and reduce competition.
- Organisations from different industries might form a JV to combine expertise and resources to address a market need or deliver innovative solutions.
- A start-up may want to access the resources, market penetration and expertise of a larger company. In turn the established company gains access to innovative products or technologies.
- Research institutions might partner with private companies to pool research resources, develop new technologies, and accelerate innovation.
There are many more types of JVs but this illustrates the breadth of possibility.
What is the legal structure of a joint venture?
Joint ventures may use different legal structures. Companies wishing to form a joint venture often create a separate joint venture corporation to limit their liability in the new venture, rather than forming a direct partnership.
A joint venture is created through the process of incorporation. Once the company is incorporated the individuals involved in the JV become shareholders of the new legal entity. The entity then conducts the business of the joint venture and concludes contracts. Both parties are jointly liable.
The creation of a joint venture entity involves:
- Registering a new company (or using an existing one, but not a shelf company)
- Drafting a new Memorandum of Incorporation (MOI)
- Drafting a shareholders’ agreement
Risks of a JV
If done correctly, a joint venture agreement can be a highly profitable arrangement. However, there are inherent risks that all parties need to be aware of. These risks should be fully assessed and understood before entering into a JV and contingency plans should be put in place to address potential challenges. Risks include:
- Misaligned objectives: different goals, priorities, and expectations for the JV.
- Disagreements over decision-making authority, resource allocation, and strategic direction.
- Ineffective communication, which can hinder collaboration and lead to misunderstandings.
- Financial risks: if partners don’t fulfil their financial obligations, it can strain the JV’s viability.
- Resource imbalances: unequal contributions of capital, expertise, or resources.
- Conflicts of interests outside the JV.
- Legal and regulatory challenges, which can be complex and difficult to navigate. Non-compliance can lead to fines, lawsuits, and reputational damage.
- Intellectual property disputes: disagreements over ownership, usage rights, and protection of intellectual property can lead to disputes.
- Cultural differences: people from different organisational cultures and backgrounds may struggle to work together. Communication can break down.
- Conflicting management styles and operational practices can reduce efficiency and productivity within the JV.
- Exit strategy challenges: partners may have different views on a suitable exit strategy if the JV fails to meet expectations.
- Loss of control over decision-making and operations can be uncomfortable for organisations used to full autonomy.
To mitigate these risks, partners should conduct thorough due diligence, establish clear governance structures, define roles and responsibilities, develop contingency plans, communicate openly and transparently, and have legal agreements in place that outline how potential conflicts will be resolved. Regular communication and ongoing assessment of the JV’s performance are crucial to success.
The purpose of the agreement
The role of the JV agreement is to define the purpose, goals and objectives of the joint venture. The agreement should set out what the joint venture is aiming to achieve, what activities it will undertake, what resources it will use, the duration, and how the JV will terminate.
Roles and responsibilities of each party
A key element of a JV agreement is establishing the specific roles and responsibilities of each party. The agreement should also outline the financial responsibilities of each by determining the financial contributions made. A well-drafted JV agreement will specify what resources members are required to contribute, both tangible and intangible.
A joint venture agreement outlines how the venture is owned by each party. This should include each party’s ownership percentages, and their respective ownership rights. Establishing this is necessary for determining how profits and losses will be shared within the JV. The agreement should also outline how profits will be shared and distributed, as well as how losses and risks will be dealt with.
Governance and decision-making responsibilities
The governance structure of the joint venture should be detailed in the agreement. This includes how the JV will be managed and how decision-making processes will be conducted. Dispute resolution should also be included. The agreement should outline how the joint venture will be dissolved and what terms might necessitate dissolution. Asset distribution in the event of termination of the JV needs to be established.
Creating and maintaining a joint venture agreement
Setting up a JV agreement should follow a structured process. Essential steps include:
- Identify the purpose and objectives of the JV. Determine what each partner brings to the table, the goals of the JV, and the potential benefits for all parties involved.
- Choose a partner with complementary skills, resources, and expertise. Consider corporate values and culture as well as practical assets to ensure a successful collaboration.
- Conduct due diligence on potential partners. Assess financial stability, reputation, legal history, and compatibility.
- Define roles and responsibilities and contributions of each partner, including leadership roles, decision-making processes, and operational responsibilities.
- Develop a comprehensive business plan that outlines the JV’s goals, strategies, market analysis, revenue projections, and risk assessment.
- Negotiate terms and agreements, including ownership percentages, profit-sharing arrangements, intellectual property rights, and exit strategies.
- Engage legal professionals to draft legally binding agreements, such as the JV agreement and any other relevant contracts, such as non-disclosure agreements.
- Establish a governance structure that defines how decisions will be made, how conflicts will be resolved, and how the JV will be managed on a day-to-day basis.
- Determine how resources, including finances, assets and human resources, will be allocated to the JV.
- Obtain any required regulatory approvals, permits, licences, or certifications before launching the joint venture.
- Establish a communication plan that outlines how partners will communicate, share information, and stay informed about the JV’s progress.
- Execute the business plan and put the JV into action.
Up and running!
Once up and running, there are a few more activities that must be prioritised for the JV to succeed. Performance should be continually monitored against the established goals and objectives. Transparent and open communication among partners, for example, via regular meetings and updates, is essential to address challenges and keep all parties informed. And ultimately,
JVs require constant adaptability. Adjustments are likely to be needed to strategies, plans, and operations based on changing market conditions, customer needs, or internal dynamics.
Seek professional legal advice
Every JV is unique, so these steps may vary depending on circumstances. However, one step should not be overlooked no matter what. The support and guidance of legal, financial, and strategic advisers is critical to ensure the JV is structured properly and has the best chance of success. As attorneys, we will draft your JV agreement to contain the essential elements that protect you against all eventualities. We will also ensure it is reasonable, fair, and easy to understand. If you are considering entering into a joint venture and would like to discuss your options, contact Simon today on 086 099 5146 or email firstname.lastname@example.org.
- Drafting effective contracts
- Business dissolution
- Due diligence
- Protecting intellectual property
- Non-disclosure agreements (NDAs)
The information on this website is provided to assist the reader with a general understanding of the law. While we believe the information to be factually accurate, and have taken care in our preparation of these pages, these articles cannot and do not take individual circumstances into account and are not a substitute for personal legal advice. If you have a legal matter that concerns you, please consult a qualified attorney. Simon Dippenaar & Associates takes no responsibility for any action you may take as a result of reading the information contained herein (or the consequences thereof), in the absence of professional legal advice.