Ways dealmakers should approach the JV legal agreement to manage bribery and corruption in emerging markets.
EMERGING MARKETS REMAIN an important source of growth for many of the world’s largest companies. Recent headlines have underscored the importance of managing corruption and bribery risk in emerging market joint ventures.
In late 2016, Rio Tinto announced it was deferring a decision on performance-related pay for former CEO Sam Walsh, pending the result of an ongoing investigation into alleged illegal payments related to its Simandou joint venture in Guinea – a crisis which has already triggered executive resignations and threats of shareholder lawsuits before any formal enforcement action takes place. Also in the news is Claudio Descalzi, the CEO of Eni, who was recently reappointed to the role despite being charged earlier in the year with international corruption related to a Nigerian exploration license purchase.
Meanwhile, other firms continue to pay significant fines to resolve formal enforcement actions linked to JVs. Take AB InBev, which recently paid $6M to resolve FCPA books and records and internal controls violations related its 49% owned JV in India, or GSK, which coughed up $20 million to settle an FCPA enforcement action precipitated by inappropriate payments at a majority-owned JV in China.
Business is clearly booming for anti-corruption enforcement agencies. This ought to give JV dealmakers some pause – especially when looking at deals in regions where bribery is just another word for “business as usual.” In a previous insight we outlined ways that JV dealmakers can protect themselves from corruption risk through effective partner screening and diligence. This insight focuses on how to structure the JV agreement itself in a way that minimizes corruption risk.
STRUCTURING THE LEGAL AGREEMENTDone well, this entails evaluating the full sweep of deal terms – including venture scope, board and committee structure, delegations of authority, management appointments, organizational design, and audit rights. To be clear, managing corruption is not the only objective the deal team needs to manage in developing the deal concept and defining the legal agreements. Equally critical objectives include ensuring that the venture has the scope and resources to deliver on the strategy, managing financial exposure, and protecting core IP.
To ensure that anti-corruption concerns influence the shape of the deal, the negotiating team might start by asking a series of questions related to different aspects of the deal (Exhibit 1). For example, is it useful, possible, and practical to keep any parts of the value chain out of the JV to limit the potential for corruption? After thinking about the potential corruption risks in a Chinese retail JV, a US company structured the agreements so that its internal staff would manage the JV’s purchasing and supply chain function under a service level agreement. In carving this function out of the JV, the company believed it would materially reduce the risk of corruption, as well as leverage its purchasing scale and build its own knowledge of the Chinese supply base. Similar approaches might be taken for finance and accounting, sales and marketing, or other functions where money changes hands.
Exhibit 1: Thinking about Key Deal Terms to Manage Corruption Risk
Short of removing certain functions from the JV, companies might look to establish committees that actively oversee and direct certain high-risk venture functions. For example, in a 50-50 automotive JV in China, the legal agreements stipulated that separate committees would be created for brand management, network development, and dealer management – and that the global partner would chair these committees and direct overall activities within these parts of the venture (Exhibit 2). This gave the global partner a practical level of control over sales and distribution that reduced the risks of corruption in the sales function, even though it did not control the overall venture.
Thinking creatively about voting rights and delegations is another way to manage corruption risk. Consider a European industrial company entering into a JV in China. Local ownership regulations required that the Chinese partner be the majority owner. The European partner proposed – and got agreement on – a voting regime that required supermajority approval on a range of financial, commercial and organizational decisions. These included third party contracts above $500,000, the appointment of all members of the management team as well as other positions within the finance and commercial function (e.g., controller, contracts manager), design of the internal organizational structure of the venture, including management reporting relationship, and choice of external auditors. In a typical JV agreement, many or all of these decisions would be vested in management, or would require only simple majority Board approval.
Securing the right to appoint key people into the venture – especially in key finance, commercial, and supply chain roles – is another important way to manage corruption risk. In many emerging market JVs, the partners will pre-agree that each company will have the right to designate either the CEO or CFO, a mechanism that gives each company sufficient control and visibility into the business....