STRUCTURING JOINT VENTURES
| Jurisdiction | United States |
(Apr 1999)
STRUCTURING JOINT VENTURES
Billiton plc
London, England
Charles Jacobs
Linklaters & Paines
London, England
Table of Contents
Introduction: Questions of content, process and context
Chapter 1: Joint ventures1. A widely used business vehicle2. Structuring issues
Chapter II: Control and decision making1. Archetypes2. Features of an effective framework
Chapter III: The memorandum of understanding1. Purpose2. Objectives of the parties3. Rules of the game4. Restrictions in the event of termination
Chapter IV: Choice of law1. Privatisation issues2. Sources of law3. Enforcement
Summary: Common threads in different patterns
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Introduction: Questions of content, process and context
This paper has been developed against the background of three issues, which were encountered recently when negotiating various joint venture agreements.
The first issue relates to the content of the joint venture. Control and decision making, which together constitute one of the most fundamental aspects in any joint venture arrangement, proved to be prominent issues during the negotiations of a joint venture in which at least one of the parties had outside interests which it insisted on securing by means of joint venture mechanisms.
The second issue concerns the negotiating process itself. Negotiations were taking place with a view to a joint participation in a public auction for mining assets. The parties had entered into a memorandum of understanding but its effectiveness appeared to be an issue when negotiations broke down at the last minute.
The third issue bears upon the jurisdictional context in which any joint venture will operate and, specifically, its implications on any pre-emption rights in the event a government privatises its interest in the joint venture.
The legal regime to which the joint venture parties submit themselves when they structure their co-operation will differ from jurisdiction but a number of basic issues are common to all. For the sake of convenience — the analysis which follows, unless stated otherwise, uses English law as the main reference for discussion of the three issues set out above. The relevant provisions are broadly outlined in Chapter 1 and the issues mentioned above will be addressed in Chapters II, 111 and IV respectively.
Chapter I: Joint Ventures
1. A widely used business vehicle
The past decades have seen the emergence of the joint venture as a dynamic force in all areas of the economy. The joint venture's history dates back to the US railroad industry in the latter half of the nineteenth century. In the twentieth Century, in join ventures became used all the more frequently
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in the oil and mining industries, in particular for investments in major projects with local government participation.
Today the joint venture is arguably considered the most satisfactory means of achieving objectives which are beyond the capabilities of either joint venture party on its own. It is a suitable medium for one party to solicit the capital investment of another with similar needs or interests, in order to reduce the risk and costs of adventure or to create an enterprise large enough to overcome the entry barriers of a given field.
The new enterprise is not intended to become the dominant activity of either or both of the parties. If such were the case, the better route would be to unite on a permanent basis by way of an acquisition or merger. The proposed enterprise is intended only to create a narrow community of interests between the two parties and therefore establishing a link by means of a joint venture is often the preferred route.
The dilemma of autonomy versus control
In most joint venture arrangements, the parties face a fundamental dilemma. On the one hand, they want the joint venture to have the authority to run its business itself, and on the other hand, they want to know that the necessary safeguards are in place to ensure that their interests will be protected. A key question is therefore how to give the management of the joint venture appropriate decision making powers while at the same time protecting the interests of the joint venture parties. In each specific instance, resolution of this dilemma requires careful thought and balancing of each party's interests.
There are two relevant overriding principles to which parties should subscribe when considering entering into a joint venture.
A contract governing the ongoing relationship
The first principle is that, unlike mergers and acquisitions, which require complete accord at only a single point in time, a joint venture necessitates continuing agreement between the parties as to the nature and scope of the enterprise. Thus the potential parties must focus on the venture and attempt through extensive negotiations to define its scope, the standards they will adopt, the market that they plan to enter and the size and possible lines of growth of the venture. Each party must understand the motivations and interests of the other, what it intends to gain by the venture, what changes it might wish to make and what alterations it is likely to propose. By a long and deliberate process of discussion and negotiation, the parties should explore every conceivable area of potential conflict until they come
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to a realistic understanding of the nature and limits of their community of interests.
Compatibility of the parties
The second principle is that of compatibility of the parties. Fundamental conflicts may arise, say, between one party with a risk-taking philosophy and one committed to a conservative pattern of corporate growth. Similar difficulties may result from the joining of two parties of disparate size or two parties with significantly different cash positions. There are many more reasons why parties might be ill-suited as joint venture partners.
The choice of party is therefore the first and most important business decision to be made when considering establishing a joint venture. Unless there is trust between the parties, and unless there is a substantial unity of interest, the joint venture approach will indeed be a risky one. Where these criteria are met, the problem of serious disagreement will often be more theoretical than real, in particular with respect to parties of statute in their particular industry. Such parties are likely to be managed by individuals with similar experience, attitudes and values, leaders in the business community who can be expected to act reasonably in an effort to avoid critical disagreements.
Depending on their interest and desired involvement in the conduct of the joint venture's affairs, compatibility with non-industry parties may be less critical. Institutional investors, for example, are mainly interested in a (guaranteed) return and an exit option and will not seek a direct involvement in managing the venture. The same applies to local investors (employees and other small shareholders) interested in a dividend flow and realisation of capital gain.
On the other hand, governments (and government agencies) can adopt various roles. They can be investors only, they can actively pursue government policies within the joint venture context or they can aspire to become involved in the management of the business itself. Depending on the role the government adopts, questions of compatibility and complementarity with the other joint venture parties will be more or less important in order to avoid fundamental conflicts leading to deadlock situations.
2. Structuring issues
The joint venture structure constitutes a limited association between two or more parties to further a single commercial endeavour in which each, by force of law or contract owes fiduciary duties to the other(s). When the venture involves a long-range, large-scale operation, the participants may
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also desire the advantage of incorporation (limited liability, indefinite life, a familiar framework for financing and control). The incorporated joint venture has evolved to combine the advantages of these two forms of business association. Although the incorporated joint venture has become a highly successful and fashionable form of business association, its inherent difficulties remain considerable. For example, dividends may only be paid if the incorporated joint venture has sufficient distributable reserves.
Unless stated otherwise, references below to a joint venture are to an incorporated joint venture.
Legality
There is no question in any modern legal regime as to the legality of a company owned jointly by two or more parties. It is also accepted that two or more companies may engage in an un-incorporated joint venture. Historically there has been some doubt as to the legality of a combination of these two types of associations — the incorporated joint venture — but the generally accepted view today is, that in the absence of a violation of public policy, the position of parties as shareholders is not legally incompatible with their contractual arrangement as parties.
Legislation
There is no statute in English law which deals with the un-incorporated structure per se. The relevant legal structure is a mixture of case law and the Partnership Act 1890 (if relevant). This will usually be supplemented by a contractual agreement such as a partnership agreement.
On the other hand, the relevant legal framework for an incorporated structure includes a series of statutes relating to companies including, most importantly, the Companies Act 1985 (as amended) and the Insolvency Act 1986, together with case law. Again, this is usually supplemented by a contractual agreement, such as a shareholders' agreement. The Companies Act 1985, as amended, describes the constitutional documents required by an incorporated structure. The essential documents are the...
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