TWELEVE YEARS AGO, we co-authored with CalPERS a set of guidelines for joint venture governance.1 At the time we argued, and still believe, that good governance in joint ventures strongly correlates with sustained financial performance, sound management of risks, and the ability of JVs to adapt to the changing needs of the market and their shareholders. We have asserted that joint venture governance is pound-for-pound more ‘physical’ than corporate governance due to the unique nature of a joint venture’s relationship with its shareholders.2 And while the number of shareholders is far more limited in JVs compared to those of public companies, the interests of the shareholders in JVs are more expansive, dynamic, and prone to conflict – which ultimately makes joint venture governance proportionately more demanding and consequential.
To bring greater transparency into how well joint ventures are governed – and to help investors, owner companies, joint venture boards, and individual JV directors calibrate the strength of the governance of ventures they own or have been appointed to oversee – we have developed a Joint Venture Governance Index. Like corporate governance indices, it defines a set of testable standards for governance that predict performance, and helps boards and other stakeholders calibrate where they are relative to objective standards of governance excellence, peers, and their own historic performance.3 Unlike corporate governance indices, however, the Joint Venture Governance Index is structured to address the unique governance demands of joint ventures – a highly-material class of businesses susceptible to shareholder misalignment, board over-reach, and other ills derived from the nature of the joint venture ownership structure.4
Governance in JVs matters. While JV governance is garnering more attention than it did a decade ago, the overall state of JV governance is still not good. Simply put, the pressures that have pressed many corporate boards to up their games on governance have not been much in play in JVs. Public companies talk a lot about and actively track how they govern themselves, and listing authorities generally demand some form of governance assessments. It’s odd that companies don’t apply similar discipline to the governance of their JVs – especially given the materiality of joint ventures and the risk exposure these assets and businesses introduce.5
Bringing greater rigor to JV governance is not straightforward, however. For starters, some concepts and best practices from corporate governance do not translate into a JV environment, which makes it hard to solely rely on corporate governance frameworks, tools, and standards in driving the conversation. For instance, corporate boards do not need to oversee the conflict-laden operational interfaces and commercial relationships between the company and the shareholders, nor deal with committee members who are not on the board. Furthermore, JV governance does not attract the same level of attention or time dedication from directors. Our data shows that the median JV director spends 15 days per year on their role, compared to 30-35 days per year for corporate directors. Similarly, JV boards often lack the resources to support efficient engagement or sustained focus on governance, whereas corporate boards can usually depend on highly-professional and well-resourced corporate secretaries, investor relations, and legal departments to support governance and shareholder management.
Most importantly, JV governance is tougher to improve because it requires agreement among multiple owners, where directors are not well-incentivized to speak up when the governance of a JV isn’t working well, and where the tone is frequently set by the least motivated director. JV directors are almost always current executives of, and nominated by, one shareholder, and are therefore not independent.6 As such, the push to improve governance can be interpreted with suspicion or as self-interested by directors from another shareholder. Meanwhile, if a director speaks up, they run the risk of going against a more senior member of their own company or presenting a dis-united front to their partners and joint venture management.
Having an objective way to benchmark JV governance can be a useful way to overcome these obstacles and supplement JV board and director self-assessments. Calibrating the governance of a JV against an objective set of standards that define what “good” look like depersonalizes the conversation, cultivates a shared view among the board of what constitutes good governance, and leads to practical suggestions that do not involve re-opening agreements. It also gives the shareholder companies, and their corporate boards, a way to track and cross-calibrate the governance of their joint ventures.
JV GOVERNANCE INDEX AND SUMMARY FINDINGS
The JV Governance Index we developed over the last decade includes 100-plus standards – that is, testable contractual terms and governance policies, practices, and behaviors – organized into nine core dimensions. These standards test for the presence of matters related to the overall governance model, board size and composition, board workings and procedures, shareholder and board voting thresholds and delegations, committees and owner support, and other aspects of joint venture governance.7 The standards reflect both good practices seen in corporate boards (e.g., board independence, presence of an audit committee chaired by a qualified financial expert, periodic board and director evaluations, independent financial audits), and practices unique to the structure and challenges of joint ventures (e.g., conflict of interest protocols that describe how directors should balance their fiduciary interests to the JV with the interests of the shareholder that nominated and employs them).8
A version of this article was previously published in the Harvard Law School Forum on Corporate Governance – see James Bamford, Geoff Walker, and Martin Mogstad, “Joint Venture Governance Index: Calibrating the Strength of Governance in Joint Ventures,” Harvard Law School Forum on Corporate Governance, posted March 12, 2020. This article does not provide any legal or accounting advice.
2 See James Bamford and David Ernst, “CalPERS Global Governance Principles: Joint Venture Governance Guidelines,” CalPERS, Updated Mar 16, 2015; James Bamford and David Ernst, “Governing Joint Ventures,” McKinsey Quarterly, 2005 Special Edition; and James Bamford, Tracy Branding, and Lois D’Costa; “Joint Venture Governance: More Physically-Demanding than Public Company Governance,” Harvard Law School Forum on Corporate Governance and Financial Regulation, December 28, 2019.
3 Equity Prices,” National Bureau of Economic Research Working Paper No. 8449, 2001; and Roberta Romano, Sanjai Bhagat, and Brian Bolton, “The Promise and Peril of Corporate Governance Indices,” Columbia Law Review, December 2008, Vol 108, No. 8; and Bernard Black and B. Burcin Yurtoglu, “Corporate Governance Indices and Construct Validity,” Harvard Law School Forum on Corporate Governance and Financial Regulation, October 17, 2016.
4 Because corporate governance indices are principally interested in identifying correlations between equity returns and governance policies, such indices generally focus on governance provisions linked to shareholder rights, testing for conditions that either encourage or discourage take-overs and mergers or otherwise empower or complicate the ability of the company to take decisions purely in the interests of the shareholders. For instance, Gompers et al include 28 governance provisions in their index, 22 of which pertain to policies adopted by the company (e.g., poison pills, executive compensation plans that accelerate payouts in event of change in control), and six which relate to regulations established by the government or regulators (e.g., director fiduciary duties laws, anti-greenmail laws, business combination laws).
5 From a materiality standpoint, many global companies, especially those in the aerospace and defense, automotive, chemicals, energy, industrial, and mining sectors hold 10 or more joint ventures which may account for at least 20% of corporate assets, revenues, or earnings. Large oil and gas companies, such as ExxonMobil, Royal Dutch Shell, and Total, derive more than 50% of their current upstream production from non-operated joint ventures. From a risk standpoint, joint ventures expose companies to significant financial, strategic, and reputational risks. For instance, Anadarko and Mitsui suffered material share price declines following the major oil spill from the Macondo field, a BP-operated joint venture in which they were non-operating partners. Similarly, BHP and Vale experienced multibillion-dollar fines and reputational damage in the wake of the tailings dam failure in their independently-managed Samarco iron-ore mining JV in Brazil.
6 See James Bamford and Shishir Bhargava, “Independent Directors for Joint Venture Boards,” Corporate Board, January-February 2020.
7 Depending on the structure of the JV and the objectives of the analysis, additional standards can be added under supplemental dimensions, including those related to shareholder-provided services, secondees, and dispute resolution and exit. Additionally, the JV Governance Index can be further expanded to include – or exclusively focused on – governance practices within an individual shareholder company. These Owner Governance Standards relate to how the owner company organizes internally to govern and support the venture and its interests, how it assigns and distributes accountability, and what processes it has in place to define its strategy and influencing plan toward the venture and other owners.
8 Joint ventures come in many different corporate forms and structures, which the JV Governance Index seeks to reflect. For instance, while many JVs are structured as separate legal entities (referred to as “Incorporated JVs” in the natural resource sector), other joint ventures, especially in the upstream oil and gas industry, do not establish a separate legal entity but rather operate as “Unincorporated JVs” whereby the co-venturers use legal and commercial agreements to jointly own assets and typically contract with one co-venturer to operate the assets on their collective behalf. This difference in corporate form introduces both substantive and superficial differences in how governance works. For instance, in an incorporated JV, the entity is overseen by some type of board, whose members likely possess certain fiduciary duties to the entity. In contrast, unincorporated JVs do not have a board in a formal sense, but use some type of steering committee to align co-venturer interests and take decisions. Members of that steering committees do not have fiduciary duties to an entity. To accommodate for these differences in corporate form, the JV Governance Index includes different versions for Incorporated and Unincorporated JVs, which despite their differences, share many of the same governance principles.