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Using a Shareholders’ Agreement in a Joint Venture

When we speak about shareholders agreement, what people really need is a consultant on why they might want a shareholders agreement and what they might want it to say! Because most of the time, they don’t know what shareholders’ agreement is.

Drafting can only be started when they have considered the nature of this agreement is and given advice. But it is very hard to give an estimate for the advice itself. Every situation is different and it can take some time for a client to digest the advice and decide exactly what they want.

They often find they need to think through some fundamental issues which they have not yet properly addressed. It is more difficult to estimate costs when the process needs to involve getting all the other shareholders to agree to everything.

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Think before ink, a Joint Venture!

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Introduction to Joint Ventures

Many times, small company owners have a great business idea or technology that they are unable to implement due to a lack of funds. After that, they begin seeking a financial partner. It is possible that they have a business idea, but not technological know-how.  Market pressures may also push you to look for a suitable partnership at times. It might also be a situation where two major corporations are just getting together for a strategic partnership for specific goals, like entering a new market, etc. The joint venture comes into play in all of these situations.

A joint venture is similar to other businesses such as corporations or partnerships, with the exception that it is solely controlled by two individuals or groups. Joint ventures also develop synergies and provide cost and benefit advantages to the firms. It is similar to a commercial agreement in which both partners agree to split profits based on their ownership percentage. The example of Sony and Ericcson, which joined forces to develop smartphones and gadgets, is also a fantastic illustration of a Joint Venture.

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Joint Ventures: A Closer Look

As mentioned before, a joint venture is usually created to complete a certain project or accomplish a specified aim. It can be founded for a variety of reasons, such as entering a new market or area, or entering a new business line entirely. There are no distinct governing bodies for joint ventures because they normally opt to engage in a new agreement. 

Before moving further, it is essential to understand that joint ventures may have different kinds of structures. Joint Venture partners frequently form the firm as a partnership, limited liability partnership (LLP), or company. This gives them more control. One of the most preferred structures is that of a jointly-owned subsidiary company that is created solely for the purposes of the joint venture. 

To simplify this, let’s take the above-mentioned case of Sony Ericcson itself. The two conglomerates mainly united for new product development in which each party must be satisfied that their piece of the project is their own, similar to collaboration. Many people prefer to structure their joint ventures in the form of companies for a variety of reasons. 

For example, in case the company is an LLP, there may not be any kind of financial recourse against either partner. 

Another potential reason could be that the company would be in the position to arrange its own funding without any involvement from any sort of parent company. But beyond all this, one main reason that many joint ventures prefer to have a company is that the shares can be sold very easily. This is especially useful when trying to bring in any additional partners or even for exit purposes. Selling out of a contractual agreement is far more complicated, especially if you simply wish to sell a portion of the company. 

While such arrangements are more typically employed for larger enterprises, nothing prevents a jointly-owned corporation from being used for a small business. Some of the benefits may not be applicable, but it is a framework to explore, especially if you have a long-term endeavor.

Joint Venture Agreements and Shareholders’ Agreements

What is the difference between a shareholders’ agreement and a joint venture agreement? In terms of content, I don’t think there’s much of a difference. A shareholders’ agreement specifies the conditions between numerous members of the same firm (shareholders, co-owners), whereas a joint venture agreement specifies the terms between several members of separate companies. 

Normally, a joint venture agreement is signed before the formation of a new firm or the investment in an existing company. The term “shareholders agreement” refers to an agreement between different shareholders of an existing corporation. That is, the agreement’s signatories are already stockholders in the corporation. 

Furthermore, most shareholder agreements are concerned with financial involvement and related concerns, but joint venture agreements may include more, such as technological know-how, material supply, and so on. In other terms, a shareholders’ agreement is a contract between co-owners (also known as shareholders) of a company that contains information regarding the business’s owners’ privileges and safeguards; it is designed to guarantee that the owners are treated fairly and their rights are maintained.

Regulating a Joint Venture with a Shareholders’ Agreement

Previously, we discussed how forming subsidiary companies is one of the most preferred ways of starting joint ventures. In a lot of cases, these companies are formed so that they have a separate shareholding just for that company without involving either parent organization. Because enterprises in this type of joint venture have their own legal structure, they have more freedom in raising funds, and the company endures even if the owners change. A shareholders’ agreement is a major necessity if the parties in a joint venture wish to reap these benefits. 

For a joint venture to be equally beneficial to both parties involved in it, an ironclad shareholders’ agreement is pivotal. There are a lot of things that the agreement will need to properly address so that the joint venture can be regulated easily. It’s crucial to pay attention to the details. Because the participants to a venture are likely to have spent considerable time debating the finer points, penning down that material is sometimes ignored – with fatal results.  Another typical pitfall when designing a contract is focusing solely on the good consequences. No one wants to suggest that the business will fail, yet it is in times of crisis that the agreement is called into question. 

The first and foremost aspect of a shareholders’ agreement for a joint venture is highlighting the purpose of the venture. Every joint venture has a very specific aim or goal behind it which is expected to be completed within a certain duration with the exact details of what happens when the said goal is reached. There must also be a clear-cut division of roles between the co-ventures (parties to the joint venture) i.e., who is in charge of what and how the decisions will be made. This will include working relationships of the parties, asset management, and even conflict resolution systems. 

As for the actual shareholding, that will be the most important part of the agreement; Everything from what the division of shares will be between the co-ventures, how profits and losses would be split, who will own the assets like physical properties or even intellectual property, among numerous other things. There must even be provisions that make arrangements for removal, retirement, bankruptcy, or even death of either party. Lastly, another extremely important aspect of the agreement will be the exit strategies. 

Exit strategies are critical because it gives the parties a way out if things start to go south. Think of it as a form of damage limitation. When there may be any kind of losses, exit strategies give you a way to limit the after-effects through things like liquidation preferences. It may be advantageous in situations where shareholders are forced to sell their stock, such as when a new investment dilutes proportionate ownership by purchasing shares from all existing shareholders or subscribing to freshly issued shares. 

A liquidation event might refer to the sale of a business segment rather than the entire company. A liquidation preference provision is included in a shareholders’ agreement to minimize the risk of ownership (if the firm is less successful than expected) or to raise the rewards of ownership (if the business is profitable and subsequently sold) in comparison to other owners.

In addition to everything mentioned above, there may also be industry-specific requirements, such as those governing materials, equipment, quality control, and service delivery.

Things to look out for

Speaking from experience, the only way to evaluate all of the possible outcomes is to consider a large number of them. We recommend that you make a list of assumptions culled from your business plan, then start asking “what if” questions about each one, always keeping in mind how the various outcomes will impact either party. 

The agreement should aim to include rules that regulate the future relationship between the parties (as shareholders) and their interests in the joint venture, in addition to the initial management/operational structure of the joint venture. When contemplating a shareholders’ agreement, it is critical to examine both the present and the future, including the use of capital and joint venture funding, transfer/sale of venture shares, exit strategies, dispute resolution, and decision-making circumstances.

Joint ventures as corporate partnerships are rapidly growing in popularity, and they are becoming increasingly important in the market. What makes it distinctive is that the joint venture may be seized or liquidated at any time after achieving a defined business goal, and the partners can take home their portion of the profits without any hassle. That will only be possible with the right shareholders’ agreement to ensure smooth operations. 

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