When you work with joint venture partners, you need to ensure a solid business relationship. This article will give you a guide as to how to draft a joint venture agreement so that you can establish your own future relationships on solid grounds.
A joint venture agreement is a legal contract between two or more parties. There are many aspects to a joint venture agreement that need to be addressed since there are many variables to any given project. You will want to be sure you have the proper legal representation that a lawyer can provide in this regard.
Here is an outline of some of the things to focus on when drafting a joint venture agreement.
The objectives of the project
The objective of the project in a joint venture agreement is to clearly define the goals of the joint venture so that all parties know what to expect from other parties. The objective should be as specific as possible (e.g., ‘We will create a new type of product that provides a better alternative to existing products). If there are specific requirements (such as time or budget constraints), those should also be included in the project objective.
Joint control of the project
A Joint Control clause in the agreement should define the parties that are jointly responsible for managing and controlling the venture. A well-drafted Joint Control clause will specify what actions require Joint Control, the process for exercising Joint Control, and how decisions should be made using majority rule, minority rights, deadlock procedures and dispute resolution mechanisms.
It is worth mentioning that a deadlock is a tied vote, occurring when an equal number of votes are both for and against the decision in question. It can also refer to the failure to reach a unanimous decision if one was required to pass a resolution.
Liability for losses and taxes associated with the project
While having a joint venture could fundamentally be a good thing for your business, it can create liabilities and tax consequences that the partners may not have considered.
Liability For Losses
Both parties will likely be comfortable with the fact that they will be jointly liable for any losses incurred by the venture. However, some partners might want to limit their liability by incorporating certain clauses in their agreement.
Taxes Liability
Taxes will almost certainly apply to your venture unless it’s structured in such a way that one party is paying taxes on all business income or profits..
Profit and loss split
There are a variety of ways in which profits and losses can be split in a joint venture agreement. The most common approach is to split profits according to the investment made by each partner in the project. This means that each partner will receive a return on their investment equal to their ownership share of the business, with any additional profits being split equally between them.
The other option is for each partner to receive an equal share of the profits no matter what their personal investment has been. This allows for partners who are not able to invest much capital into the project to still reap some of its benefits, but it also allows them to take advantage of those who do contribute more and carry more risk than they do.
All potential partners should understand how they will be paid before signing any contract or agreeing to work together. Otherwise, there will be disagreements over compensation later on down the road.
Timescale and budget in a joint venture agreement
Joint venture agreements need to set out a timescale, including the length of the joint venture, the date it starts and any deadlines for the completion of specific tasks. The parties also need to consider how long the joint venture will continue after the completion of its main purpose.
Budget
It is also important for the parties to agree on the matters related to costs, finances, assets and liabilities in their joint venture agreement, including:
- Who is responsible for any set-up costs or pre-joint venture expenditure?
- Who will pay for ongoing costs?
- How much money will each party contribute to the project?
- How will profits be shared between parties? e.g. will there be an agreed profit split or a share of profits paid according to investment?
- Whether they will have separate bank accounts for receipts and payments related to their joint venture or one single account?
- What will they do if your joint venture makes a loss, and who will pay off debts incurred by the joint venture?
Decision making
Most joint ventures need to make decisions on a regular basis, and a joint venture agreement should spell out how those decisions will be made. In common practice, each party should have an equal say in how the business is run, how profits are distributed, and how decisions are made.
A joint venture can be compared to a partnership in taking decisions. It’s not like a corporation, where the company is responsible for its own management. Everyone in the joint venture has equal powers in the business to establish a suitable mechanism to make several types of decisions. For example, the parties can agree to have the right to veto any proposed significant decision. All parties can also agree that one party or a nominated officer has the final say on all matters affecting daily activities, operations, hiring staff, etc.
For the higher decisions, some level of majority rule could exist (e.g., at least two of the three parties must approve), while other matters could be decided by a simple majority(e.g., 50%+1 votes).
In this regard, certain provisions should be added in the agreement for hiring an expert, mediation or arbitration if the parties cannot agree.
Whether the JV will be exclusive or non-exclusive
“Exclusive” and “non-exclusive” clauses are standard terms in joint venture agreements. An exclusive agreement limits one party’s right to partner with other parties. For example, suppose a company that sells candy has an exclusive joint venture agreement with a company that manufactures candy-making machines to create a joint product or business. In that case, the machine manufacturer cannot sell the same machines to other candy companies without violating the agreement.
In contrast, a non-exclusive joint venture agreement allows one party to partner with additional parties under similar terms. For example, if a manufacturer of chocolate has a non-exclusive agreement with a distributor of gourmet foods, the chocolate manufacturer may also enter into similar agreements with other distributors.
The parties should be aware of the exclusive nature of the joint venture agreement and how it could benefit or harm their future or current business.
Joint Venture Formation
Joint ventures can be structured as partnerships. A partnership is typically formed between two or more individuals or entities for a project or specific purpose. Partnerships offer flexibility of how profits and losses are shared among partners, but it creates joint liability for all partners involved, where each member is personally liable for the partnership’s obligations and debts. On the other hand, LLC members are shielded from personal liability by having the company as a separate entity liable to creditors and others who may have legal claims against their business.
It is essential for the parties, before entering the joint venture, to add certain clauses to try to secure themselves and their personal assets and possessions from being personally liable against future debts and claims.
Sharing confidential information
This is a common worry among business owners considering a joint venture, but it is not as big of a problem as they might think. For one thing, any business that signs a joint venture agreement with you will likely be just another business to them. That means they are probably just as protective of their confidential information as you are.
In addition, your partner will only need access to the information necessary for the joint venture. So if you are in the home repair business and want to open a joint retail store with a building materials supplier, you would not share your customer list or trade secrets with them. All they would need is access to your sales records, so they can analyse how much product they should stock at the new store. (Likewise, all you would need from them is information on the inventory needed to fill your order.)
If there is any confidential information that you absolutely do not want to share with your partner, you must spell it out in the agreement using a non-disclosure clause.
Overall, joint venture agreements are more important than most entrepreneurs realise. Through our experience, most business owners draft their own agreements or just use a template without having the necessary knowledge about the obligations and consequences they are moving into. They fail to recognise the essential protections that need to be put in place to protect themselves and their business partners. However, you, as a business owner, should make sure to understand how to protect yourself in the event that your future JV has soured. AIO Legal Services understands all the intricacies involved with drafting and reviewing joint venture agreements, and we are ready to put our experience in your hand.
Contact us today to get your joint venture agreement.