JV Dealmaking: When to Kick the Can Down the Road

  

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kicking the can_bw_squareIMAGINE YOU HAVE been tasked with negotiating a joint venture agreement. Months of grueling negotiations have consumed significant resources and have led to agreement between your company and the counterparty on all but a couple of items. These items will require significant work to resolve and are critical to the JV’s financing and operations. But year-end is approaching, your target for signing up the JV, and the fatigued deal teams could use a win. The counterparty wants to sign a JV agreement with the terms agreed to date and decide on the open issues in ancillary agreements later.

What do you do?

Should you sign the agreement based on agreed on terms and defer the remaining issues, perhaps finding resolution between signing and close or even to after closing? Or should you hold out and not sign any agreement until all issues are resolved?

In the context of a full acquisition, dealmakers would be unlikely to leave the negotiating table without all material terms being agreed and memorialized. After all, once the acquisition has occurred, the seller no longer has an interest in the purchased company and thus the buyer’s leverage post-closing to get the seller to agree to assist with transition services or other matters is seriously diminished, if it has not evaporated completely. By contrast, in a joint venture, counterparties maintain leverage after signing. Partners must still engage with each other regularly on JV startup, governance, and operations. Not surprisingly, JV partners sometimes sign a less than fully-formed deal, as partners assume they can decide unresolved issues in a favorable manner down the road.

But just because they can create the JV while some issues remain outstanding, does that mean they should do so?
 
In our experience, the answer is generally “no”: the parties should agree on all material terms before officially signing up to become a partner in the joint venture.

BENEFITS OF PULLING IT FORWARD

There are profound benefits of front-loading agreement on all material issues before parties legally enter into a binding contract. These open issues not only relate to contractual terms, of course, but extend into finalizing an approvable business plan and financial model, securing external financing, and agreeing on governance, corporate policies, and management appointments (Exhibit 1).

Exhibit 1: What to Do or Defer Prior to Signing

Exhibit 1 What to Do or Defer Prior to Signing

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Pulling-forward all key terms and plans allows partners to capture the momentum and intensity of a timeline-driven negotiation. Conversely, exempting a few items from that dynamic creates the risk that those still-open issues drag on for a significant period, and potentially are never landed. Closing all items paves the way for a smoother JV start as the management team will not be distracted by ongoing negotiations and the blueprint for how the JV will work will be more complete as opposed to having large holes related to outstanding issues. Additionally, if open issues are closed out on the front end, it is likely the initial deal team who has context about the JV’s structure, scope, and challenges, will be working through these outstanding issues, as opposed to a new team that may be brought in post-signing and that lacks necessary context. 

And, of course, deals lose momentum and people lose intensity once an agreement has been executed – creating the risk that the open issues could drag on for a significant period, and potentially never be landed.
 
Perhaps most importantly, ensuring there is alignment on all material issues pre-signing significantly decreases the probability that a company will sign up to a JV that shortly down the road it wishes to exit.  Once a partner of a JV, exiting can be challenging, even with the most carefully crafted exit provisions. Companies should avoid being in a position where they need or want to exit from an established JV if one of the open issues does not shake out in their favor.

TIMES TO DEFER TO AFTER SIGNING

But there are certain circumstances where other factors outweigh the benefits of closing out all material JV issues before officially signing up to be a JV partner; in such cases, creating or becoming a party to the JV before closing out material issues may be the right approach.

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