Joint Venture

Companies – even com­peti­tors – often work closely together. They use synergies or create them them­selves in order to achieve common goals. This is not only done locally, on a small scale, but worldwide, across national borders. The joint venture is one of the most es­tab­lished forms of corporate co­op­er­a­tion.

The history of the joint venture can be traced back to the 1920s. At first, American companies in par­tic­u­lar made use of it, but business people in other export nations soon followed suit. This type of venture spread worldwide after the end of the Second World War. The term “joint venture” then gained con­sid­er­able pop­u­lar­i­ty in the 1990s as the Eastern European and Chinese markets opened up.

In practice, a joint venture means that two or more companies, which are legally and fi­nan­cial­ly in­de­pen­dent of each other, cooperate with one another. The partners will remain in­de­pen­dent, but will pool forces and resources to a certain extent in order to jointly implement specific projects and achieve business goals.

The partners both bear the man­age­ment re­spon­si­bil­i­ty and the financial risk and, if the business is suc­cess­ful, they will share the profit. If un­suc­cess­ful, they share the resulting losses among them­selves. The size of each company’s voice and the profit share usually depends on how much each company has fi­nan­cial­ly con­tributed to the joint project.

BMW's long-standing co­op­er­a­tion with the Chinese car man­u­fac­tur­er, Bril­liance, is one of the best-known examples of joint ventures. The partners operate two Chinese plants in which several BMW models are man­u­fac­tured, as well as an engine factory. Europe's largest aircraft man­u­fac­tur­er, Airbus, and the Canadian train and aircraft man­u­fac­tur­er, Bom­bardier, also work together in a joint venture. Their core business is the pro­duc­tion and sale of the medium-haul C-Series jet.

In an equity joint venture (EJV), the partners establish a joint sub­sidiary, i.e. a legally in­de­pen­dent third-party company, usually in the form of a cor­po­ra­tion. This excludes unlimited financial liability of in­di­vid­ual partners. As described above, the partners each con­tribute capital to the joint venture. They share the man­age­ment functions and bear the financial risk of the in­vest­ment or project in question.

If the capital shares are equally dis­trib­uted, this is known as a joint venture on an equal basis. If this is not the case and one of the partners dominates, it is referred to as a majority joint venture. This option is sometimes chosen in order to simplify decision-making processes or to curb (too) one-sided knowledge-sharing at the expense of the majority share­hold­er. So, it is important to establish adequate co-decision rights – up to the cor­re­spond­ing veto rights of minority share­hold­ers.

The above-mentioned Airbus-Bom­bardier col­lab­o­ra­tion is an example of a majority joint venture: Airbus owned 50.01% of the joint company when it was founded, whereas Bom­bardier owned 31%.

In contrast to an equity joint venture, the partners in a so-called con­trac­tu­al joint venture (CJV) do not establish a joint sub­sidiary and therefore do not create an in­de­pen­dent legal entity. Contracts regulate the dis­tri­b­u­tion of costs, risks, and profits between the companies involved. Ad­van­tages of the con­trac­tu­al joint venture: the formation costs are lower, the con­trac­tu­al basis can be made more flexible, and profits and losses can be dis­trib­uted freely, as can the voting rights. When it comes to the con­struc­tion, the partner companies are also not nec­es­sar­i­ly liable with their capital con­tri­bu­tion, but can be held directly liable.

A joint venture is par­tic­u­lar­ly suitable for im­ple­ment­ing major projects that are difficult or im­pos­si­ble for a company to implement on its own. Co­op­er­a­tions like these can also be helpful to give the business a better position against the com­pe­ti­tion or to open up new markets – e.g. with the help of a local partner. It could also simply be a matter of asserting common interests over third parties.

Companies entering into joint ventures often pursue long-term goals, including new product de­vel­op­ments or fun­da­men­tal research. Medium-sized companies hoping to establish them­selves in­ter­na­tion­al­ly often choose this path. Together, supply chains can be designed more ef­fi­cient­ly and market risks can be mitigated or even avoided.

The partners ideally com­ple­ment each other in terms of skills, in­fra­struc­ture, and resources, and con­tribute a wide variety of assets, such as operating fa­cil­i­ties at different locations, land, qualified employees, relevant spe­cial­ist knowledge, proven market knowledge, important contacts, and specific man­age­ment skills.

Many companies are entering into joint ventures not only in the western in­dus­tri­al nations, but also in numerous de­vel­op­ing and emerging countries. In some strictly regulated markets, co­op­er­a­tion between foreign investors and one or more domestic companies is even a state-imposed pre­req­ui­site for market access (see BMW and Bril­liance in China). Sometimes this only applies to certain in­dus­tries.

This means that what was orig­i­nal­ly voluntary now becomes state-imposed. The more tempting the re­spec­tive sales market appears, the greater the incentive to enter into a "marriage of con­ve­nience" like this.

To improve the chances of a joint venture being suc­cess­ful, all partners should clearly com­mu­ni­cate their goals and ex­pec­ta­tions and carefully co­or­di­nate them. Last, but not least, the "chemistry" between the partners should also be right for long-term, sus­tain­able co­op­er­a­tion.

As outlined above, the main ad­van­tages of co­op­er­at­ing are to strength­en the business’ com­pet­i­tive position and to reduce or dis­trib­ute risks across several shoulders. Not every partner needs to be an expert in every area; instead, finances, expertise, and other resources are pooled so that every party benefits. The partners combine their strengths and com­pen­sate for in­di­vid­ual weak­ness­es. They use common supply, pro­duc­tion, and dis­tri­b­u­tion struc­tures to avoid un­nec­es­sary and expensive parallel struc­tures where they would have to invest alone.

When companies merge and share resources, there is of course the danger that internal company in­for­ma­tion and critical know-how will “leak” to a com­peti­tor. Benefits and risks should therefore be carefully weighed up in advance. In the best case, an equal exchange of resources takes place, which are used together and ul­ti­mate­ly benefit all parties involved.

However, the more partners that are involved, the more complex the man­age­ment and control of joint projects can become. The general co­or­di­na­tion effort is often un­der­es­ti­mat­ed. Cultural dif­fer­ences can also lead to com­pli­ca­tions when partners from different back­grounds work together. If there’s no harmony, in­sta­bil­i­ty and failure can end up being a real threat. In any case, all partners should always attach the same im­por­tance to the joint project in order to avoid im­bal­ances.

A joint venture is usually es­tab­lished under the corporate law of the country in which its head­quar­ters are located. It is therefore crucial to first define the company concept, the location, and the target market(s) and, if ap­plic­a­ble, the product range and pro­duc­tion ca­pac­i­ties. It is just as important, of course, for the co­op­er­a­tion partners to be chosen carefully – after all, the goals must be the same. Fur­ther­more, any conflicts between a possible joint venture and the parent companies regarding target markets, marketing channels, and com­pe­ti­tion issues must be ruled out.

Once these issues have been resolved, companies need to reach an agreement on financing and the level of in­vest­ment. The partners must also agree on how to deal with the acquired knowledge and, if necessary, licenses, and patents. Factors such as staff al­lo­ca­tion, man­age­ment bodies, and al­lo­cat­ing man­age­r­i­al tasks should also be discussed at an early stage so that the set-up and pro­duc­tion phases can start in an orderly fashion.

Fur­ther­more, the con­di­tions at the desired location must be carefully checked in advance. In addition to the specific in­vest­ment con­di­tions, these con­di­tions include tax law, civil law, com­mer­cial law, ad­min­is­tra­tive law, and political issues. Factors such as wages and access to the required sales channels also need to be con­sid­ered. The type of legal structure the joint venture has is largely dependent on the location.

Joint ventures are governed entirely on the legal agreement that got them started in the first place. The most common structure is a separate business entity, where each party owns a specific per­cent­age of the entity. It functions through the legal status of the par­tic­i­pants (co-venturers or venture partners). If the joint venture is a cor­po­ra­tion, and both busi­ness­es have equal shares in the business, then the company will be struc­tured so each partner entity has an equal number of shares of company stock and equal man­age­ment.

The potential partners first explore the ob­jec­tives and tasks, capital shares, and location issues in pre­lim­i­nary ne­go­ti­a­tions before coming to a con­clu­sion on the joint venture agreement itself and the articles of as­so­ci­a­tion. A sub­se­quent fea­si­bil­i­ty study roughly defines the chances of success and, depending on the founding country, also allows au­thor­i­ties to assess the project’s ap­prov­abil­i­ty. This is followed by the request for approval as well as one for the name. Once a business permit has been granted, further registry entries (e.g. with the tax au­thor­i­ties) may be required for the joint venture to acquire legal capacity.

The answer to this question is also closely linked to the form of the joint venture and the choice of location – i.e. to the locally ap­plic­a­ble tax and duty law, according to which the level of taxation income, con­sump­tion, and substance is de­ter­mined. The re­spec­tive rules of corporate taxation apply to an equity joint venture as an in­de­pen­dent, legally binding acting company. In a con­trac­tu­al joint venture, however, the parent companies them­selves remain re­spon­si­ble.

The IRS doesn’t recognize the joint venture as a taxing entity so it is the business structure that de­ter­mines how taxes are paid. If it’s a separate business entity, then taxes will be paid according to this business form e.g. if it’s an LLC, it will pay taxes like one.

If the joint venture is a con­trac­tu­al re­la­tion­ship with an agreement between two in­de­pen­dent companies, the terms of the agreement will determine how tax is paid and which company pays what amount.

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