This article has been written by Suchandra Mukherjee pursuing the Diploma in Law Firm Practice: Research, Drafting, Briefing and Client Management from LawSikho. This article has been edited by Zigishu Singh (Associate, Lawsikho) and Ruchika Mohapatra (Associate, Lawsikho).
Table of Contents
Introduction
A joint venture (JV) is the joining of two businesses for a common goal and mutual benefit. These two organisations could be private, government-owned, or foreign organizations. A joint venture could be for a long or short period of time. JV’s origin may be traced all the way back to the 1920s. This model was pioneered by American companies, and it was quickly adopted by people in other exporting countries. At the end of World War II, this way of doing business became popular all across the world. As Europe and China’s marketplaces opened up in the 1909s, the term “joint venture” gained use.
The alliance aids in the expansion of a company’s operations, the development of new products, and the entry into new markets, particularly in another country. In the formation of a new entity, a joint venture involves the sharing of share capital, technology, human resources, risks, and rewards.
The parties involved share the right to control and manage the business. Except for the capacity to contract under the law, there are no separate laws in India for these joint ventures. Companies incorporated in India are treated the same as domestic companies, even if they contain up to 100 percent foreign equity.
Joint Venture
A joint venture occurs when two or more businesses join forces for a common goal and mutual benefit. Joint ventures have become increasingly popular in India as a means of attracting not only foreign capital but also foreign technology. For example, the Birla-Yamaha or the Maruti-Suzuki joint venture. The firms could be private, government-owned, or foreign. Joint ventures are extremely beneficial for strengthening long-term relationships or collaborating on short-term projects. Firms form joint ventures to expand their business, develop new products, or enter new markets, often in another country.
Scope of Joint Ventures
There is no limit to the number of joint ventures that can be formed. Joint ventures can be formed by two or more companies from the same industry, two companies from different industries, two companies from different countries, or two companies from different industries and different countries. Thus, the scope of forming a joint venture is limitless, and they can be formed and benefited wherever mutual cooperation is required.
Joint ventures, in particular, are common in the oil industry, and are frequently ventures between a local and a foreign company. Joint Ventures are frequently viewed as a viable business strategy in the oil sector, as the companies can complement their skills while the JV provides the foreign company with a geographic presence. The most well-known venture is Fuji-Xerox. P&G chose a joint venture with Godrej primarily to gain access to Godrej’s distribution network and manufacturing facilities.
Memorandum Of Understanding (MoU)
Joint ventures are established through the signing of a Memorandum of Understanding (MOU) by both companies, which outlines the premise and purpose of the joint venture as well as the terms and conditions of the agreement.
Because Joint Venture Agreements are typically drafted to achieve a specific goal, the parties should clearly state their intentions when drafting the agreement. The Joint Venture Agreement must be properly drafted by the parties in order to achieve its true purpose.
It must state that all necessary approvals and license requirements will be obtained as follows:
(a) If the Joint Venture is covered by the automated route, RBI clearance is required.
(b) In other circumstances, FIPB (Foreign Investment Promotion Board) approval is required.
Ways to enter into a Joint Venture
Joint ventures are established in three ways:
(i) A foreign company and an Indian company merge to form a new business.
(ii) A foreign company acquires a portion of an Indian company’s equity shares.
(iii) An Indian company acquires a portion of a foreign company’s equity shares.
Reasons to enter into a Joint Venture
Joint ventures between companies within a country can occur for one or more of the following reasons:
i. It may make it easier to introduce new technology;
ii. Joint ventures may reduce the high risks associated with new ventures; and
iii. Smaller firms collaborating may be able to compete with larger organisations.
Advantages and disadvantages of joint venture agreements
The advantages offered by a joint venture
1. Established brand name – A business partner’s established brand name benefits the joint venture because there is a ready market waiting for the product to be launched, and a lot of investment in developing a brand name for the product or even a distribution system is saved in the process.
2. Increased resources and capacity – As the financial and human resources of the various businesses are pooled, the new business’s resources and capacity increase. This enables the joint venture company to respond to market challenges and capitalise new opportunities more quickly and efficiently.
3. Access to new markets and distribution networks – By forming a joint venture with a foreign company, you gain access to a vastly growing market around the world.
4. Access to advanced technology – Because the business partner has easy access to advanced technology, it saves the collaborating businesses a lot of time, energy, and investment because they don’t have to develop their own technology. Advanced manufacturing techniques result in higher-quality products at lower costs.
5. Innovation – Through joint ventures, businesses can come up with something new and creative for the same market due to new ideas and technology.
6. Low production costs – Joint ventures enable companies to reap the benefits of low raw material and labour costs, technically qualified workforce, management professionals, and excellent manpower in various cadres such as lawyers, chartered accountants, engineers, and scientists at a much lower cost than in their home country.
7. Substantial Capital Funds– A joint venture provides substantial capital funds. It is appropriate for large projects.
8. Risk diversification – A joint venture divides the risk among partners.
Disadvantages of a Joint Venture Agreement
The major drawbacks of joint ventures are:
A joint venture allows a company to share the risks and costs of developing a new business, but it also requires a share of the new business’s profit or loss.
The venture partners have opposing business philosophies, time horizons, reinvestment preferences, and significant issues. It fails due to partner disagreements.
1. Conflict of Interest – Dual ownership may lead to disagreements between partners over control of the business.
2. Risk of Trade Secret Disclosure – There is a risk of technology and trade secret disclosure.
3. Lack of Coordination – There may be a lack of coordination among the partners, which may inhibit the Joint Venture’s efficiency.
Forms of Joint venture
1. Project-based joint venture- This is a sort of JV in which the partners join forces to complete a specific assignment.
2. Vertical Joint Venture – This is a sort of JV in which the parties are at different stages of the same product and have opted to form a JV.
3. Horizontal Joint Venture– This is a sort of JV in which the participants are competitors who decide to team up.
4. Function-based Joint Venture– This is a sort of JV in which the parties come together in order to gain mutual advantage from their synergy.
Forms of Joint Venture Agreements in India
Joint Ventures in India can be of two types:
- Contractual Joint Venture
This is the type of joint venture that can be used when the company is not in need of a detached legal entity or it is not feasible for the company to create one.
When the JV is needed to be established for a temporary term or there is limited activity or that involves a temporary task this is the type of agreement that is preferred by the company.
For example, a foreign corporation and an Indian company may establish a Technology Collaboration agreement under which the foreign company controls all major components of the business. In such a circumstance, the foreign business may wish to maintain the option of acquiring shares in the Indian company that uses its technology at a later date. This means that, while the venture will begin as a contractual joint venture, the parties may subsequently change it to an equity-based joint venture.
- Equity-Based Joint Venture
Here the legal entity address independent is created when there is an agreement of two or more parties.
For this entity that is created independently, the associated parties agree to provide resources or money as their contribution towards the assets or capital to the corporate identity.
Forms of equity-based joint venture
1. Company – In India, the most common structure for joint venture organisations is a limited liability company. The government also encourages investment in the form of equity capital in an Indian-incorporated company. In India, there are two sorts of companies: private limited and public limited. There are no minimum share capital requirements for either a private or a public limited company.
2. Partnership Firm – In most circumstances, such an entity is not permitted for joint ventures by foreign residents in India. Exceptions are allowed for enterprises owned and controlled by Non-Resident Indians. In general, a foreign corporation should not consider employing a partnership firm as a vehicle for a joint venture.
3. Limited Liability Partnership (LLP) Firm- A minimum of two partners are required for an LLP firm. It also requires a minimum of two Designated Partners, one of whom must be a resident of India. The two partners might be designated as Designated Partners as well. There is no minimum capital commitment required to form an LLP Firm.
4. Venture Capital Fund – A legally registered Foreign Venture Capital Investor may invest according to the terms and restrictions outlined in Schedule VII of the Foreign Exchange Management (Non-Debt Instruments) Rules, 2019.
5. Trust – In India, a foreign firm may not employ Trust as a form of joint venture corporation.
6. Investment Vehicle– Some funds, such as Real Estate Investment Trusts, Infrastructure Investment Funds, and Alternative Investment Funds, have been subject to SEBI restrictions. Such funds are now authorised to accept foreign investment from individuals residing outside of India.
Clauses in a Joint Venture Agreement
To enter into a Joint Venture with a prospective business partner, the parties sign a Memorandum of Understanding (MoU), as well as a letter of intent (LoI), which clarifies the basis of the future Joint Venture agreement. This also includes understanding the culture as well as the legal background of the parties. When signing a Joint Venture agreement, the following terms must be thoroughly reviewed: the object and scope of the Joint Venture; equity participation by local and foreign investors; and an agreement to issue money in the future. The appointment of a CEO/MD; Exit clauses/change of control provisions; Anti-competition clause; confidentiality clause; indemnity clause; assignment clause;
Clauses that must be entered in the joint venture are stated below: –
1. The nature of the relation– it is very crucial to explain the nature of the relationship of the parties to the joint venture, i.e., whether the parties have fiduciary(trust-based) obligations, or whether the relation is contractual based.
2. The contribution of the parties– The contribution of the parties should be clearly explained in the joint venture agreement in order to ensure that each party understands what they will be contributing to the enterprise, and that will be held accountable for it.
3. Profits, risks and liabilities – How profits, risks, and liabilities will be shared is a key question, particularly in terms of the venture’s structure. Is it planned to share the revenues and liabilities among the parties based on their own interests? Or will certain parties’ liability be limited, while others have unlimited liability?
4. Decision Making– It should be specified in the JV agreement who will be in charge of the venture’s day-to-day operations and management. Different levels of approval are frequently specified for different types of decisions.
5. Intellectual Property – To avoid the risk of one party attempting to exploit the venture’s intellectual property for its own gain, the joint venture agreement should specify who will own any new intellectual property created by the venture, as well as the extent to which the parties may use that property outside of the venture.
6. Other Clauses
The agreement will include a number of other rules and clauses, such as:
– The procedure for selling the venture’s interests;
– A buy-sell agreement;
– Plant and machinery installation;
– Facilities for maintenance;
– Consideration of Taxes;
– Alternative Dispute Resolution Mechanism;
– Exit mechanism.
– Non-disclosure and non-compete agreements; and
– Clauses describing how much information regarding the endeavor, such as financial information, the venturers will be permitted to obtain.
Problems faced by Indian Joint Ventures
(i) Inability to forecast market movements.
(ii) Failure to select the right partners.
(iii) The subsequent departure of local partners, as well as the rejection by Indian partners to approve the technology required.
(iv) Unyielding pricing competition.
The failure of Indian joint ventures is primarily due to a lack of adaptability in the new marketing climate because they were used to a shielded market in India. In the face of fierce pricing rivalry, many firms battled to stay viable.
A majority of problems can be avoided if the entrepreneurs give joint venture agreements more thought before signing them.
There is an information gap, and Indian entrepreneurs lack sufficient knowledge of many countries. Fortunately, joint venture fatality rates have decreased in recent years. This could be due to the government’s scrutiny of the plans being more thorough.
Suggestions for improvement
(i) Export Agencies – To communicate information about business opportunities in other nations, an export agency should be established.
(ii) More Research – The entrepreneur who is going to collaborate should conduct accurate feasibility studies, market surveys, and develop their own project reports, rather than relying solely on the information provided by other agencies.
(iii) Bank Consortium – To help Indian joint ventures with cash flow, a bank consortium of Indian banks should be formed.
(iv) Flexibility – Instead of insisting on Indian equipment, Indian entrepreneurs should be given more freedom to specify appropriate equipment and size of operations. Insistence on Indian equipment harms India’s image since host countries believe that the major motivation for forming joint ventures is to establish new markets for Indian capital goods and equipment.
(v) Buy Back Arrangements – Indian entrepreneurs should be willing to buy back joint ventures in nations with restricted domestic markets, such as Sri Lanka.
Though the situation of Indian joint ventures is not ideal, substantial change is projected in the near future, as seen by the recent decrease in death rates. The government should exercise caution when accepting joint venture plans to ensure that they can thrive in changing foreign market marketing situations.
Conclusion
Joint ventures and mergers are said to be an excellent way for business entities to enlarge their market position and increase their profits in the Marketplace. The companies that are similar, can use horizontal or vertical Mergers. The purpose for both of these is different as in Vertical Merger, companies that are joined are in the different stages of the product. On the other hand, in a Horizontal merger, the companies that are joined, are in competition with each other. In my opinion the companies can come by temporarily to complete a specific project in a given time and the joint venture agreement takes place and a one goal is achieved. The type of joint venture to be entered in, is considered upon analyzing the circumstances of each company and the type of synergy these companies are aiming toward. It will act as a stepping stone no matter what type of joint venture the business chooses, they can always analyze how they would work together and what their future collaborations could be.
References
- https://www.mondaq.com/shareholders/1031362/key-considerations-for-a-joint-venture-agreement.
- https://www.mondaq.com/trademark/855788/joint-venture-agreement-key-considerations.
- https://blog.ipleaders.in/different-types-joint-ventures.
- http://www.indialegalhelp.com/files/jvforeigncompanies.pdf.
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