Among various effective market entry options, establishing a joint venture often with a local partner or partners in the respective target market can offer a competitive, effective, and successful market entry option. Joint ventures are two or more businesses intending to combine their resources and capabilities either through a contractual arrangement (unincorporated joint venture) or by virtue of an incorporated or formal structure with the aim to pursue a predefined commercial goal.
A common Joint Venture setup is where an international investor partners with a well-established and reputed local partner to combine their specific company resources and expertise to create a competitive advantage in the relevant foreign market. Below deliberations concern an incorporated joint venture structure.
The particular contributions and legal obligations might vary depending for example on the select business model, risk appetite of each partner and respective mid or long-term strategy in the relevant market, among other factors. However, common joint venture structures are based on the fact that the foreign investor contributes equity or financing facilities, critical know how such as IP rights, strong brand value and brand recognition, trade secrets, superior products and services, sophisticated manufacturing abilities and international management and marketing expertise and the local partner majorly provides access to its extensive local customer and business partner data base, distribution channels and trained sales personnel, local business and regulatory know how essential in order to adapt foreign business models to local requirements and local assets such as land, warehousing, assembly lines and car fleet.
What is important in a first step in selecting the right partner in a foreign market?
From a legal and risk management standpoint it would be essential to conduct a thorough legal and reputational due diligence on the envisaged partner organization. This process includes due diligence on its shareholders, beneficial owners, and company officials to mitigate potential compliance or legal risk which might affect the sustainability of a future venture or even tarnish the reputational integrity of the foreign investor or the local partner.
Other important key aspects which need to be screened would be to examine if the prospective partner is facing any upcoming or pending litigation procedures or court/governmental enforcement actions, tax evasion cases or is subject to current or past corruption, AML/CFT or financial sanction violation related cases and if any bankruptcy procedures are impending.
Besides an assessment of the financial stability and soundness of a potential local partner, a due diligence on its promised company resources and commercial capabilities is recommended to verify if pre-agreed contributions decisive for the success of the joint venture are indeed available and up to the standard and expectation of the foreign partner.
How can one initiate and manage effectively joint venture negotiations?
By entering joint venture discussions, it would be essential for both parties to capture at the outset all critical verbal agreements, promises, expectations and goals financially, commercially, and particularly legally. Best practice is to draft an initial terms sheet reflecting joint understandings and key provisions reached during the notations. This draft will be a working document to be updated throughout the negotiation process.
A common misconception in joint venture discussions is that it is prudent to start first with the legal negotiations among the party’s representatives. However, a more efficient and sensible approach would be to initiate such partnership negotiations with conceptualizing and aligning on a well thought out market entry strategy, joint business plan and budget discussions. Once those commercial and financial aspects are duly addressed the legal negations can start, taking into consideration commercial and financial consents achieved between the parties during their discussions.
What are the legal and structural considerations of a joint venture?
Once the negotiations are finalized a detailed shareholders’ agreement or joint venture agreement will drafted based on the earlier agreed term sheet. The shareholders’ agreement serves as a comprehensive rulebook and constitution of the joint venture for the parties comprising not only legal but also largely commercial and financial obligations of respective joint venture parties.
Depending on the selected business model and specific requirements defined by the parties for envisaged joint venture, key legal provisions might vary and need to be customised according to the concrete transactional structure. Some of the key provisions and aspects to be taken into consideration are the following:
- Allocation of share capital: It’s imperative for the parties to (pre-)agree on the allocation of the shares amongst them and hence obtaining shareholder control of the joint venture company which is often correlated with management control and a requirement for consolidated financial statements. Further, it needs to be taken into account that contributions by the shareholder of the joint venture are defined prorate in line with the company shares held by the relevant partner.
- Governance and Management of the joint venture company: A critical discussion between the partners is how many board members each party can nominate and hence who will control the board as a key decision body of the joint venture entity. The board also has the authority to either appoint the company manager or to define his powers, day to day duties and reporting obligations. Often the shareholder with the majority shareholding and risk taking would be the one controlling the board. But this is not true in all incidents e.g. due to foreign ownership restrictions.
- IP Rights Protection: As mentioned above in many cases the foreign investor contributes crucial trade secrets and IP Rights such as trademarks, wordmarks, patents, or copyrights to the joint venture creating a competitive advantage in the target market. The foreign investor would have significant interest in leveraging commercially and protecting comprehensively his so granted IP Rights by prior registration of the specific IP Rights with the competent trademark office and drafting of IP Licensing agreements between the foreign partner and the joint venture entity.
- Termination and Dissolution of joint venture: It is critical for the parties to agree on termination reasons, which shall lead to immediate termination and those reasons that will grant a party grace period for reification, if rectifiable. Since both parties most likely invested significant resources into the joint venture a termination and thereafter dissolution of the company would inflict a significant financial loss to the partners among other serious legal and reputational consequences. Hence a carefully drafted termination clause is recommendable.
- Exclusivity and Non-Competition: In view of the fact that both partners contribute significant funding and company resources to the joint venture in order to provide for the success of the undertaking, both parties would have a serious interest that the joint venture is an exclusive venture and none of the parties establishes in parallel a business same or similar to the joint venture company.
As outlined above establishing a joint venture between a foreign investor and a local partner can be an extremely successful and efficient market entry option by combining both parties’ specific expertise, company resources and know how. However, it is critical from the beginning to plan, structure and manage the negotiation, drafting and setup process professionally and inclusively in order to avoid any unaddressed legal gaps or to prevent frustration among the parties due to lack of communication and guidance.
How Can We Help?
At Pannike+Partners, our experienced lawyers are well experienced in advising on complex M&A and Joint Venture transaction with cross border nexus. We assist you from the initial due diligence, conceptualizing, negotiation, drafting and registration stage until the completion of the transaction in a safe and effective manner. We would be delighted to guide you through the entire process as part of your extended team.
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