Joint ventures are a popular means by which projects are undertaken in the ENR sector.
The term joint venture is not regarded as a term of art, but generally refers to a commercial arrangement between two or more entities wishing to execute a business undertaking together. The definition of a joint venture under English law, for example, covers a wide variety of collaborative business relationships, but would not usually encompass complete mergers or takeovers between two entities. The parties to a joint venture simply come together for a common purpose whilst maintaining their own individual and independent existence.
The most common reason for entering into a joint venture is where the resources and capital required to complete the project or undertaking in question are beyond one company's or individual's capacity and the pooling of resources, knowledge and experience and/ or capital and funding is required. Establishing a joint venture may also allow a business entity to gain access to particular resources or markets which would otherwise be inaccessible.
Joint ventures may provide a means to 'passport' into other countries, to assist with any requisite licence applications and to gain the benefit of local connections. Furthermore, joint ventures are often established for social, political or logistical reasons or due to the requirement to have a local partner when participating in a business activity not permitted to be undertaken by a 100% foreign owned company.
Form of Joint Venture
In practice, the legal form of a joint venture is likely to be determined by the nature and size of the enterprise, the identity of the participants and their commercial and financial objectives.
The traditional and most common structure for a joint venture is when a separate corporate entity is established specifically for the purpose of undertaking the relevant activity or project (a Corporate JV). The corporate entity would likely be a limited liability company or partnership, whereby the participants maintain their individual identity and existence but hold equity interests as shareholders in the joint venture company.
Alternatively, the joint venture could be purely contractual in nature by way of a co-operation or collaboration agreement (a Contractual JV). There are a range of legal and financial considerations that will determine which structure is most appropriate in each particular case.
When contemplating a joint venture, be it a Corporate JV or a Contractual JV, the principal purpose of the relevant joint venture agreement is to:
- Establish the basic rights and obligations of the parties in relation to the joint venture company or the relevant project;
- Ensure that the company and its business or the joint venture working committee is established and run in accordance with the participants' objectives; and
- Prescribe what should happen in the event that certain circumstances or difficulties arise.
The participants should ask themselves a number of key questions from the outset and before instructing counsel to draft the relevant joint venture agreement on their behalf, including those questions in Figure I on the following page.
By carefully considering these key questions, the participants should be in a position to provide clear instructions to counsel which will allow counsel to determine the most effective structure for the joint venture and to use the most appropriate template in drafting the joint venture agreement, thereby minimising costs.
Figure 1. Initial Considerations and Key Questions
- What is the object and scope of the joint venture?
- How will the joint venture be financed (e.g. in the case of a Corporate JV, will the participants invest in equity or provide loans)?
- Will third party financing for the joint venture be required and, if so, what security will the participants (in the case of a Contractual JV) or the joint venture company (in the case of a Corporate JV) be required to provide to secure that financing?
- What will the parties put in (e.g. resources, know-how, assets, equipment, staff, etc.)?
- What will the parties take out (e.g. dividends/ profit share, salaries, management fees etc.)?
- Who will manage and control the joint venture (i.e. the composition of the board of directors/ shareholders in the case of a Corporate JV or the working committee in the case of a Contractual JV)?
- How will the position of any minority shareholder/ participant in the joint venture be protected? For example, should "veto" rights be included in the joint venture agreement whereby certain key and material decisions of the directors/ shareholders or the working committee (as applicable) require the unanimous consent of all participants?
- How does a participant get out of the joint venture, if in fact the participants are not locked-in for a particular period of time?
- What happens in the event of a dispute or deadlock situation?
- Are there any tax consequences of entering into the joint venture for any of the participants? Tax and accounting advice should be obtained to ensure that the structure of the joint venture is tax efficient.
The Joint Venture Agreement & Documentation
As mentioned above, a Corporate JV involves the establishment of a new corporate entity. As such, the memorandum and articles of association of the new company will need to be drafted setting out the main administrative structure of the company.
As the memorandum and articles of association of the joint venture company generally have to be filed with the relevant authorities in the jurisdiction of incorporation, it is customary for the parties to enter into a separate (and private) shareholders/ joint venture agreement to deal with the ongoing relationship, and the rights and obligations, of the shareholders/ participants to the joint venture, the management of the business/ project, the transfer of shares/ interests of the participants and various other matters.
Other documents that may be required in the case of a Corporate JV could include loan agreements, intellectual property assignments and asset transfer agreements on the basis that the participants may be required to contribute cash, intellectual property and/ or other assets to the joint venture vehicle.
Whilst the memorandum and articles of association of the joint venture company will not be required in the case of a Contractual JV, a co-operation or collaboration agreement should be drafted to include substantially the same provisions as would be customary to include in a shareholders agreement.
Key Provisions of the Joint Venture Agreement
There are a number of key provisions which should be carefully considered and included in the relevant joint venture agreement, including provisions relating to:
- Management: When considering who will run the joint venture, it is important to select the right board of directors or members of the working/project committee, balancing the need for independence against the maintenance of control. Any conflicts of interest should be taken into account. In the case of a Corporate JV, it is recommended that a list of matters for decision by the management and those matters reserved for shareholder decision be drawn up. Such a list can be advantageous as shareholders can vote in their own interests, whilst directors are generally obliged to act and vote in the best interests of the joint venture company.
- Control: Provisions should be included in the relevant agreement detailing matters relating to governance, including the appointment and termination of directors/ committee members, voting rights and the quorum required for, and regularity of, meetings. When considering control, access to information and relationships of the joint venture to the participants or group companies should also be considered. For example, it is quite usual to include restrictive covenants and noncompete provisions which are binding on the parties for a period following expiry or termination of the relevant agreement.
- Minority Protection: Depending upon the make-up of the joint venture, and whilst provisions may be included to provide flexibility allowing the parties to regulate affairs as they wish, care should be taken to protect minority shareholders/ participants. For example, it is customary for a list of key matters to be reserved for determination by the consent of all shareholders/ participants to ensure that a majority shareholder/ participant cannot dissipate or otherwise adversely affect the minority's investment. Additionally, in the case of a Corporate JV, tag along provisions are often included whereby the minority shareholder/ participant is entitled to 'tag along' in the event that the majority shareholder/ participant wants to sell its shares/ interests in the joint venture company.
- Checks and balances/information sharing: where one party is largely responsible for the management of the project it is important that appropriate checks and balances are put in place and there are adequate procedures for the sharing of operational information with the other party. For example, on a new African mining joint venture the local partner may be responsible for dealing with government officials, obtaining licences and engaging with the local community. However, the overseas investor should still be kept informed of these matters, have the opportunity raise any issues with the local partner and, here appropriate, the exercise of powers by the local partner may need to be subject to the overseas investor's prior approval.
- Profits, Losses & Winding Up: When drafting clauses relating to the distribution of profits, allocation of losses and what happens on the winding-up of a company in the case of a Corporate JV, the objectives of the parties should be considered. For example, how will the parties take out profit from the joint venture? Will it be by way of dividends or interest, payment of royalties or management fees? Are profits and losses to be pooled? Such provisions vary significantly and need to be tailored to the circumstances.
- Deadlock: The likelihood of a deadlock situation (i.e. where the representatives of the participants cannot agree to a particular course of action) arising depends largely upon the make up of the board of directors or working/ project committee although, in the case of a Corporate JV, a deadlock may also arise at shareholder level. There are generally two options for dealing with deadlocks. The first is by including detailed and complex provisions in the relevant agreement establishing how a deadlock is resolved (for example, in material cases, a forced sale of shares/ interests by one participant to the other). The second option is for the agreement to remain silent on matters of deadlock resolution so that, if the parties cannot agree on a particular matter, the issue in question is simply not resolved and will be put to the relevant decision makers again at a later date.
- Termination: It is generally recommended that provisions relating to the termination of the joint venture or exit of one of the participants be included in the relevant agreement unless the parties are prepared to lose their investment. having made investments and contributions to the success of the joint venture, the parties may determine that a participant should not be entitled to exit from the joint venture for a limited period of time.
- Transfer of Shares/ Interests: Careful consideration should be given to the provisions relating to the transfer of shares/ interests in the joint venture. For example, the parties may consider that pre-emption rights, whereby one party must first offer to sell its shares/ interests in the joint venture to the other parties before being entitled to sell those shares/ interests to a third party, are appropriate.
- Events of Default: It is recommended that an agreement of this nature includes detailed provisions relating to events of default and breach. These provisions commonly involve a forced sale of shares/ interests by the defaulting participant to the other participants, often at a discounted price, in the event of a material breach or default which has not been remedied.
Practical Steps to Minimise Risk
Whilst joint ventures are common in today's commercial environment, parties wishing to enter into a joint venture often underplay the importance of clearly setting out the key provisions relating to the management, governance and termination of the relevant project or undertaking in a joint venture agreement. By giving careful consideration to the factors highlighted in this article and documenting such matters in a clear and concise manner, the parties are more likely to avoid the need for costly, time consuming and damaging dispute resolution proceedings in the event that the joint venture is unsuccessful, one of the parties wishes to exit from the venture or if there is a breakdown in relationships.
The aim of your legal advisers should be to assist in creating and documenting a structure for the joint venture which ultimately encompasses the parties' commercial objectives whilst at the same time satisfying the operational and technical requirements of the venture itself.
To read the ENeRgize newsletter in full please click here.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.