What is Joint Venture – How to Set Up and Start One?
Setting up a business on your own might get hectic as sometimes you may not have the resources or expertise needed to run the business. In such a scenario, going into a joint venture with another company might bring multiple benefits to your business. As an added benefit, a joint venture dissolves once the specified task has been accomplished.
But how does a joint venture work? What are its risks and benefits? Continue reading further to get the details.
What is a Joint Venture?
A joint venture is an agreement or contract between two parties (individuals or companies) with one objective or goal to accomplish. In this type of agreement, each partner is equally responsible for the profits, losses and costs incurred. If the stakeholders have any other businesses, the joint venture has no connection with those as it is regarded as a separate entity.
Unlike a partnership business, a joint venture dissolves after accomplishing the goal.
How Does a Joint Venture Work?
Joint ventures are primarily common in the real estate, media and technology sectors. Two or more parties put together their resources for one specific purpose. However, these companies or individuals do not have any other legal responsibilities to each other than regarding their business. Joint ventures can be a combination of public, private or foreign companies.
In India, many companies form joint ventures by collaborating with foreign companies that are either more technologically advanced or geographically more distributed.
What are the Characteristics of a Joint Venture?
Here are some of the notable characteristics of a joint venture:
• Forms alliance
A joint venture is formed to share qualities and minimise deficiencies in both partner companies. In simple terms, in a joint venture, two parties complement each other towards achieving a shared objective. One entity might have an advantage over some resource or quality that the other party might lack and vice versa.
• No separate legal implications
There is no exclusive governing body or separate law for joint venture organisations. However, once a joint venture forms, the Ministry of Corporate Affairs, in association with the Registrar of Companies, keeps track of the company. Also, the parties are legally independent, with the exception of the company they collaborate for.
Generally, in a joint venture between multiple parties of the same or different countries, there can be several challenges. There can be geographical, technological and cultural differences. Also, targeting audiences in different locations can be a challenging factor. When entering into a joint venture, both parties sign an agreement to share the risks and rewards associated with it.
What are the Different Types of Joint Ventures in India?
There are typically two types of joint ventures that two or more parties might take part in. They have been discussed below:
• Equipment-based joint venture
This type of joint venture involves sharing of technology or machinery. It will be easier to comprehend this type with the help of an example.
Suppose XYZ is a clothing company that has the human resources but lacks in technology advancement to start a new line of products. Now there is another company, XYZ, which has technological backing but lacks human resources. Now, if these two companies collaborate, both of them can gain profit by making a minimum investment.
• Personnel-based joint venture
This type of joint venture brings together only people and their expertise. For example, think of a group or team of architects who come together to refurbish an old building or a group of programmers who wish to jointly develop an app.
There can be segmentation depending on the types of partnership as well:
- Contractual or equity-based: In a contractual joint venture, the parties collaborate without establishing a separate entity. Whereas in an equity-based joint venture, the involved parties hold joint ownership by establishing a separate business entity.
- Incorporated or unincorporated: You can establish an incorporated joint venture as a limited liability partnership as per LLP Act, 2008, or as a limited liability company as per the Companies Act, 2013. In case of an unincorporated joint venture, you can set up a simple partnership firm or form a strategic alliance without the need to register.
- Private-public partnership: This kind of partnership only occurs when the Government (Central or State) enters into a partnership with a private company. This private entity can either be local or international.
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What are the Uses of Joint Ventures?
Due to its diversity and vastness, India has the market and scope for the formation of multiple joint ventures, which can be helpful in developing the economy as well. Here are some uses of a joint venture in India:
• Market trends and sectors
In India, joint ventures can be seen across multiple industries and sectors. These mostly involve sectors revolving around high-end technology, high-level technical skills and high capital investment. Insurance, pharmaceuticals, telecoms and asset management companies see higher numbers of joint ventures.
• Cross-border joint ventures
Implementation of the Consolidated FDI Policy of 2020 in accordance with the Foreign Exchange Management (non-debt instruments) Rules 2019 has unlocked the liberalisation of multiple key sectors in India to foreign investments.
As a result, India saw the highest-ever FDI flow of $67.54 billion between April and December 2020. Sectors such as pharmaceuticals, defence, aviation, insurance and telecoms have seen considerable growth in a number of joint ventures.
How to Set Up a Joint Venture Company?
It is ideal to form a joint venture to gain advantage over a competitor in the market or to launch a project. If you are wondering how two parties or more can set up a joint venture, you can refer to the steps discussed below:
• Step 1: Get a partner
Finding one or multiple partners for your venture can take a lot of work. But finding your partner mainly depends on a clear objective. A simple example can be finding a distributor for your product.
You must check multiple factors before deciding on an individual or company to be your partner. There will be an exchange of valuable information and details. So it is very important to check if you can trust your partner with confidential information.
• Step 2: Decide your type of joint venture
After you have found your business partner, the next step is to determine how you want to operate the joint venture. There are two ways to do this – you can either form a separate entity, such as a limited liability or corporation, or you can function under a joint venture agreement without forming a separate legal entity.
There are risks and benefits to both of them. A separate legal entity means there will be more paperwork and responsibilities, but it also comes with higher legal protection.
On the other hand, a contractual joint venture is less expensive but hectic to get started with. But it doesn’t have any tax implications of its own. In this case, all the tax benefits get reflected in the respective parties’ tax returns.
• Step 3: Prepare a contract or agreement
Regardless of which type of joint venture you are starting, you have to form a contract that will include some crucial information regarding your business. Here is a general overview of the details it should include:
- Type of joint venture
- Purpose of the venture
- Share or contribution of each party
- Distribution of profits and losses between the parties
- Duties of responsibilities of each party
- Voting rights of each party
- Meeting Schedule
- Ending date of the venture
When you are drafting and signing a legal document such as this contract, it is recommended that you have legal assistance by your side.
• Step 4: Pay your taxes
The taxation of your joint venture depends upon your type of joint venture.
If you form a corporation, your profits will be taxed at a flat percentage, but the stakeholders will also have to pay taxes on dividends. If you form an LLC, your business’s profits and losses will directly reflect on your individual tax returns. Unincorporated joint ventures face tax treatment similar to an LLC.
• Step 5: Comply with other regulations
You should also make sure to follow any regulations applicable to your joint venture at the Central or state level. If your joint venture includes cross-border involvements, you will have to be extra careful about the international regulations that might come into play.
Examples of Joint Ventures
Here are the examples of some remarkable and world-famous joint ventures:
• Hulu
Launched in 2007, Hulu is a joint venture between some global business leaders – Providence Equity Partners, News Corporation, NBC Universal, and the Walt Disney Company. A majority of the streaming service platform, notably two-thirds of the company, is controlled by Disney.
• Barnes & Noble + Starbucks
If you have noticed a Starbucks outlet inside all Barnes & Noble bookstores, you should know that it is a well-thought joint venture. Customers have a nice experience in the in-store cafes, which improves the profitability of both the bookstore and the coffee giant.
• Samsung + Spotify
This joint venture was first started in the year 2008, and later they extended their agreement. As a result of this, Samsung phones come with Spotify as a pre-installed app, and they even give their customers a 6-month subscription to Spotify for free.
• Ford + Toyota
Ford and Toyota began working together in 2011 to introduce hybrid trucks in the market. With Toyota’s hybrid technology knowledge and Ford’s leadership in the American Truck Market, it is a perfect example of a joint venture.
What Are the Advantages of Joint Ventures?
A joint venture brings several advantages to its shareholders, such as increased productivity, faster growth and extra profit to the joint organisation. Here are some other primary advantages of joint ventures:
When it comes to joint ventures, the investment and expenses are shared between the parties involved. This lowers the burden on a sole owner and also cuts down the overall costs.
• Technical & other expertises
Every participant in the joint venture brings their expertise to the table. Getting technical and other expertise becomes more affordable and easily accessible.
• Access to markets
A joint venture opens the door to easily accessible markets and offers more potential to grow and develop. For example, suppose a company in the USA enters into a joint venture with a company in India. It opens the door for both countries to each other’s markets, bringing along more growth and revenue opportunities.
• Easy access to revenue
Start-ups and small businesses face a lot of difficulties collecting resources or funds for growth. With a joint venture, this difficulty is cut down short to a certain extent which makes it relatively easier for small businesses to expand. Also, larger firms provide smaller firms with extensive distribution channels and diversified revenue streams.
• Access to advanced technology
In today’s digitised world, it is easier for a company to grow if it has the latest equipment and machines. But it can often be an expensive task to install such technology. Therefore, entering into a joint venture with an organisation that has technology-rich equipment or high capital strength will undoubtedly curb this barrier to a large extent.
• Benefit for alliance
Joint ventures bring the same type of alliance or synergy benefits as a merger or acquisition. In addition, it can become a capital/financial or operational alliance which is extremely beneficial for a new company to expand.
• Improved credibility
With start-ups and small businesses emerging rapidly, it can be difficult for them to gain credibility and recognition in the market. In such a scenario, signing a joint venture agreement with a larger, well-established firm will undoubtedly give a firm the benefit of quicker and easier access to credibility in the market.
• Shield against competition
One of the main reasons to form a joint venture with larger companies is to provide a shield or barrier against the competition in the market or similar sector. By signing a joint venture with another company, firms can easily penetrate into markets, effectively crossing these barriers.
• Enhanced scalability
In a joint venture, one company can take advantages offered by another company. It gives a competitive benefit to both organisations, offering chances of scalability.
What are the Disadvantages of Joint Ventures?
As joint ventures are purely an understanding between two or multiple parties, disputes can arise for several reasons. Here are some disadvantages of a joint venture:
- The objective or goal of the venture may not be clearly specified to all the participants.
- There can be an unequal distribution of resources and work.
- Leadership and support may be unavailable in the early stages of the venture.
- The level of expertise and investment required for the venture might not match the expectations.
- Even though the venture’s goal might be the same, at times, the partners can have different opinions.
- Due to variations in culture, there might be barriers within the management of a corporation.
- Communication between the parties might not show clarity at times, which can cause misunderstanding.
What are the Risks of a Joint Venture?
The benefits and drawbacks of forming a joint venture have already been discussed. But when it comes to more than two parties joining for a single cause, there might be complexities at times.
Here are some risks associated with forming a joint venture:
- There can be difficulty in operations due to differences in the work culture and management styles of different firms.
- Due to one reason or another, a joint venture can come to an end resulting in a waste of resources and effort.
- The project or goal that you have set your mind on while establishing the joint venture could fail.
- If you do not establish your joint venture as a separate entity, you can unwarily invite unwanted liabilities and legal risks by involving another business.
Important Clauses of a Joint Venture Agreement
When entering or establishing a joint venture, the parties must undergo legal documentation. These include a Memorandum of Understanding (MoU) and a letter of intent which all the members sign. This clarifies the intent of setting up the venture as well as an understanding of the cultural & legal background of the parties.
Listed below are some important clauses which should positively be there in the paperwork:
- Intent and scope of the joint venture
- Financial arrangements
- Management Committee
- Equity distribution by all investors (foreign and local) and an agreement stating future investment details
- Provisions regarding the distribution of profits
- Specific obligations
- Configuration details of the management and board agreements
- Termination details
- Appointment of CEO or MD
- Change in clauses of control and exit
- Provisions regarding voting
- Circumstances stating transferability of shares
- Deadlock remedial
- Restrictive covenants on the participants and their firm
- Dispute resolution
- Indemnity clause
- Anti-compete clause
- Confidentiality and conditions regarding the same
- Force Majeure
- Rules & regulations applicable
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Final Word
A joint venture is a simple and structured collaboration between multiple parties to accomplish a specific common task. It gives the benefits of shared risk and access to each other’s resources making the whole operation easier.
Also, once the objective is achieved, individuals can return to their own business operations without any obligations. Hence, this is a preferred way of conducting business for a lot of investors and entrepreneurs.
FAQs
Ans: A qualified venture is specifically curated for married couples. It provides them with the benefits of synergy as well as taxation. In addition, it allows them to receive social security for a financial year.
Ans: Joint venture agreements usually come with a time period. But there can be other reasons behind a company’s early exit from the contract before that specified time. These can be a shortage of funds, a dispute within management, etc. The usual exit strategies are buy-sell agreement, unilateral rights or pull/call rights, etc.
Ans: Companies might enter into a joint venture agreement due to multiple reasons, such as expansion, new product development, or penetrating new markets, particularly overseas.
Ans: A simple joint venture can be a partnership or collaboration between two parties. These parties can be companies or individuals. But a qualified joint venture is exclusively a partnership between spouses in which both of them participate in the business operations.
Ans: In a joint venture, neither of the parties is in control. Instead, they all contribute towards one objective. Whereas in a franchise, a parent company controls and grants a license to a small business to use the parent company’s name, brand and operating methods.
Disclaimer
This article is solely for educational purposes. Navi doesn't take any responsibility for the information or claims made in the blog.
