Are 50/50 joint ventures always a bad idea?

Surprisingly, the answer to this issue is straightforward legally, but complicated practically.

In an unincorporated joint venture, the venturers usually appoint one party as the Operator. The Operator, which is usually but not always the largest percentage participant, is subject to the supervision of a management or operating committee, but in practice the Operator is very much in control. This is because the Operator has control of all data and information, and releases information to non-operators on a “need to know” basis. Therefore the operator is in an ideal position to drive the development of the venture, and it is not often that one sees development proposals being put forward by a non-operator.

Sometimes parties incorporate a management company to more or less act as Operator. This often happens in mining ventures and in other developments where parties hold 50/50 interests. In that situation there is a perception that it is important to hold 51% or more in order to act as the majority partner. In practice if there is a robust Shareholders’ Agreement the actual percentage rarely matters, other than through the optics of how the JV works.

The reason I say this is because a well-drafted Shareholders’ Agreement will set the pass-mark voting requirements for major issues such as winding up, fund raising, sale of key assets, new issues of shares etc. This pass-mark for major decisions may be set at unanimity, or perhaps at a threshold lower than 100% in recognition that over time other partners with lesser interests may join the venture.

A separate management company may be a purely paper company, or a “Pinocchio” company that pretends to be real by having “dedicated staff”, who are in fact secondees more dedicated to the interests of their ultimate employer. The parties may agree that they will alternate in the appointments of key positions (e.g. Chairman, CEO, CFO) with the intent that there are checks and balances because neither venturer ever fills all key roles.

The reality is that these staff will always be loyal to head office. They know who pays their salaries and will always have a weather eye on how they will eventually slot back into the parent organisation. It is highly unlikely that they would ever act contrary to the wishes of the parent, which in the case of a director can cause conflicts with his or her statutory duty to act in the best interests of the company. These types of issues are exacerbated where employees do not have full-time roles, so that the lines become blurred as to when a person is performing work for the parent and when for the subsidiary.

Therefore one would expect that in a 50/50 joint venture, where neither company is in control, the executives have very little delegated authority and decision-making is slow and complicated. In my experience it is very difficult to negotiate with a 50/50 JV where no-one is in clear control. This problem can become intractable where the investors are different types of entities (e.g. an industry player and a private equity fund) who have differing investment aspirations and timeframes. I have written before on the need for parties to align and understand each other’s capabilities and aspirations before launching into a joint venture.

On top of this each shareholder wants the JV company to operate consistently with its own audit and governance requirements, IT platforms, and budgeting and operational policies and procedures. So in practice there will probably have to be a negotiated decision to adopt the governance and operating framework of either one company or the other. 

In the case of a real operating company, that is, one that owns and sells product, and has direct hires as a significant part of its workforce, there is scope for the company to develop its own culture and procedures over time. But this can require a huge amount of time and effort, which can be difficult to justify if “off the shelf” solutions are available from a parent. On top of this large companies will always want to minimise the possibility of a subsidiary “going rogue”, in other words, developing its own culture and procedures which may be inimical to what head office wants to impose.

To return to the original question, a 50/50 joint venture is manageable from a legal perspective, but is often a bad idea from an operational perspective. What sounds good in theory often does not work in practice.

 Law Strategies specialises in the creation and administration of enduring contractual relationships.

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