From the Front Lines: Recent Trends in Joint Venture Dealmaking

  

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Remarks from executives at BP, Shell, and GE on the state of affairs in JV dealmaking and partnership strategy

From the Front Lines: Recent Trends in Joint Venture DealmakingDESPITE WIDESPREAD ECONOMIC uncertainty, companies around  the world continue to form joint ventures to diversify risk and control, to enable innovation, and to see considerable returns on their investments. This is all during a time when JVs are being subjected to new regulatory dynamics and scrutiny.

To discuss the latest ways dealmakers and companies collaborate to form joint ventures, Water Street's Gerard Baynham and Molly Farber recently hosted a roundtable discussion with four senior leaders of GE, Shell, and BP to discuss the types of JVs and alliances they are seeing in the market today, the evolution of these deal trends in the medium and long term, and general tips and traps for negotiating and structuring joint ventures. Edited transcripts of their remarks follow.

INDUSTRY TRENDS, DEAL TYPES, AND RATIONALE

 Rip Zinsmeister Chief Operating Officer of Mergers & Acquisitions BP
Rip Zinsmeister
Chief Operating Officer of Mergers & Acquisitions
BP

Those in the mineral extraction business used to talk about the commodity cycle. Now, they are talking more about the commodity super cycle. Oil went from $100 to $140 a barrel, and now it is barely at a pulse above $30. What that means in the joint venture landscape is that, throughout the globe, those with investable cash are being paired with those who are resource long, and companies are using joint ventures as return-type vehicles. Given the challenges in the industry right now, a serious and, as you can imagine, emerging issue is the credit quality of your counterpart. The companies with investable cash have to make sure that they have clear title to the minerals or the asset in case their counterpart goes bankrupt, and there is an expectation of a wave of bankruptcies in the E&P business.

Yevgeny Scodigor Joint Ventures Program Director GEYevgeny Scodigor
Joint Ventures Program Director
GE

GE's model is customer-centric, so we are establishing joint ventures to be closer to the markets and to our customers. The tendency in the last few years has been to set up technology transfers in emerging markets to capture growth in GE’s sister industries, i.e. nuclear and liquid fuel power plants. Gas turbines and power generation equipment are currently in high demand, so we are looking at JVs in these sectors as well. These JVs are intended to be non-growth entities, so we just execute on the initially defined strategy. Countries like Russia, Algeria, and Saudi Arabia are the countries we are operating in currently.

On the licensing side, we have Chinese partners. However, these are not JVs but rather technology licensing agreements. For these markets, we tend to use 50-50 style JVs, which I would say are more complex to manage, to set up, and to make successful. These JVs are established mostly for the purpose of selling to customers within the JV’s country of operations, and as such they are not global in scope. It is challenging to manage the base costs of these JVs because sometimes we have a few in a specific country and sometimes we have none. That is the big challenge we have right now.

The tendency is to rely on the parent companies or the technology transfer company for shared services so that we can manage the base costs of the JV in order to respond to fluctuations in market demand. The other complexity with our JVs is that our partners are often also our customers, so we can encounter conflicts of interest in terms of profit sharing and shared services. Ultimately, this requires a lot of attention in order to ensure that our JVs are up and running in a profitable manner.

PRIVATE EQUITY AND SOVEREIGN WEALTH FUNDS 

Dick Oblath Vice President, Downstream Global Portfolio Projects ShellDick Oblath
Vice President, Downstream Global Portfolio Projects
Shell

The biggest change in the partnership landscape over the past 10 years is that there are a lot more counterparties coming from different parts of the world, particularly private equity firms and sovereign wealth funds. From Shell's perspective, these are two different entities. The broad issue is that with any JV, the shareholders going into it must have aligned aspirations. That is a given with JVs. In regards to sovereign wealth funds, we've found their involvement is not necessarily as the primary JV partner, and in some cases this is also true of private equity. They are generally involved as a co-investor brought in by a counter-party who is more strategic.

Our attitude is that as long as the strategic counterparty is aligned with us and as long as all counterparts, including the sovereign wealth fund, are at the table when negotiating so that you understand everybody's aspirations, Shell is fine with their involvement. I think it comes down to fundamentally one of the axioms of forming any joint venture - you better have a very, very serious discussion about what your aspirations are - you need a prenup; you need to understand what happens if your aspirations shift from each other. These remain the same conversations regardless of what type of counterparty you are dealing with.

The difference with private equity, of course, is that they are much more short-term in their outlook. That is not necessarily a disadvantage because it is possible that you as a JV partner want to increase your position over time and maybe you can already decide to step into their shoes in some predetermined way. So those counterparties are newer to this sort of arena. If we had gone 15 years back, you probably wouldn't have seen them. We are seeing them turning up now. In our case, we have seen them turn up as co-investors and not as the primary investor.

EXIT PROVISIONS AND THE SOCIAL CONTRACT

Rip Zinsmeister, BP: I have two truisms in the joint venture dealmaking space. One is, pay attention to the exit provisions. I think, on an interpersonal level, dealmakers get a bit anxious to talk about exit when they are trying to form a marriage. Another speaker used the concept of a prenup – this is an important idea. Ambiguity in the exit provisions will ultimately stress the exit for all parties involved and will consume a lot of spiritual, emotional, and intellectual capital, which can be better used by senior executives elsewhere. My second truism relates to the idea of the social contract; I am an advocate within my organization that when dealing with joint ventures, one should always pay attention to the social contract, not just the written contact. People have to get along and invest in the social contract. That's how you maintain alignment. Once you're misaligned, that’s when I get the phone call from the M&A professional to help exit a joint venture.

Dick Oblath, Shell: It seems Rip and I have lived through the same miseries, particularly when it comes to exit provisions. I've spent more time in the last five years sorting out exit issues than actually doing a joint venture related deal, so this is a key issue for me. The other truism Rip described is the social contract. I would reinforce this point. One of the dangers in a big company like ours, and I daresay in other major international oil companies, is that our people tend to move jobs on a relatively frequent basis. If your counterpart is a smaller firm and your joint venture is in a key part of their business, their board of directors and JV management team, will be more stable. We are shifting towards the policy that even if people change jobs, they remain on the JV board, even if his or her new job does not have a direct line of responsibility to the JV.

This is all related to the social contract – a board’s ability to constructively work together. I think this social contract is particularly relevant at all levels of an organization in order to make sure that all executives touching the joint venture understand why the joint venture was formed and are able to work through difficulties together, whether those difficulties pertain to changes in market dynamics or company strategies.