Structure Choice

General Considerations

There will be some form of joint venture agreement between the principal parties.  It will usually be formal and negotiated. There is a range of relatively standard forms, particularly in the fields of construction and engineering.

Practical consideration must be given to the following issues.

  • the identity of the participants;
  • the apportionment of responsibilities between the parties;
  • the mutual enforcement of obligations;
  • management and decision making;
  • accounting;
  • apportioning profits and losses;
  • funding proportionate liability / contributions;
  • intellectual property and licences;
  • confidentiality
  • employment and staff issues and costs;
  • facilities and property;
  • excluding the parties from participating in a competing business;
  • pricing and commercial terms;
  • force majeure/frustration;
  • insurance;
  • dispute resolution,
  • accounting matters;
  • choice of law;
  • negation of partnership in so far as possible.

Factors in Choice of Structure I

The following are some key considerations in most joint ventures.  The parties will usually wish to have the benefit of limited liability so that the venture stands alone and can be shielded from the liability of the participant parties if it fails or if unexpected uninsured risks emerge. Guarantees may be required by banks and other third parties which circumvents the benefit of limited liability.

The tax costs must be considered on an ongoing basis. An important difference between a joint venture carried on through a company and a non-company structure is that profits of the former arise directly to the company and are distributed outwards to participants.  This carries double taxation.

In contrast, the profits of a non-corporate medium such as a partnership will accrue directly to the participants with a single tax charge only.The investor parties will require the payment and (if they are not domestic) the repatriation of profits on a tax-efficient basis. If the venture is in another jurisdiction the relevant double taxation treaty’s withholding tax arrangements on dividends and interest are critical.

Factors in Choice of Structure II

Any regulatory requirements must be considered in relation to the business concerned. More general considerations such as companies law, employment and competition law may arise. Some larger-scale joint ventures may fall within the domestic or EU mergers clearance regime.

The funding of the joint venture must be considered. It may be in a position to raise funds in the local jurisdiction more efficiently and give security over its assets. In other cases, the parties may need to support the joint venture company by the subscription of capital, guarantees or other support.

The accounting treatment should ideally be consistent with the parties’ financial reporting regime. The financial accounts may have to be consolidated into the those of either or both participants.

There should be a clear legal structure. Decision makers and senior management must be identified and have the requisite authority.

Factors in Choice of Structure III

The initial and ongoing costs of the possible structures should be reviewed. Particular structures which may be otherwise attractive may involve an ongoing administrative cost in terms of filing, audit and other requirements which offset their benefits.

A joint venture company will need to be considered in the context of its position in a participant’s existing “group” structure and financial arrangements. It may have implications under the existing group bank obligations. Where a joint venture is treated as a subsidiary undertaking of one or more of the participant companies, this will have obligations and implications under taxation and accounting rules.

The ease of unwinding and realisation should be considered. A particular structure may be most compatible with the desired exit options such as by winding up, transfer to one party or purchase out.

Advantages of Corporate JV

A significant advantage of a corporate joint venture is that it has a corporate identity. Limited liability companies are attractive in that the liability of parties/members for the commercial failure of the venture is limited.

This assists in dealing and contracting with third-parties. It provides a readymade shareholder and management structure, albeit that it will usually require some modification.The limited company provides for a defined accounting structure. It must prepare financial accounts in accordance with law.

A joint venture company may be effective, desirable or necessary from a taxation perspective. An entity is taxed in itself. Dividends for shareholders are not taxed until received in most circumstances. There is legislation that attributes profits of certain non-resident companies to resident shareholders and legislation which surcharges undistributed professional services and investment income.

Companies may hold assets in their own name. This offers a greater possibility for financing and security. In particular, fixed and floating charge can be given over all the assets of the company under Irish and UK Laws. Share capital can be designed flexibly. The parties can define their economic rights, including their relative priority of entitlement to returns and relative voting rights, as they wish.

Disadvantages of Corporate Joint Venture

A disadvantage of a company/corporation is that involves ongoing accounting costs and filing obligations. It is difficult to avoid filing financial statements.

Greater formality and structure is required in operating the venture. Board and shareholder meetings are required on an ongoing basis.

It is common for parties to transfer their employees to the joint venture entity. This will raise implications under the Acquired Rights Directive. The employment rights will automatically transfer.  Certain consultations will also be required.  Issues will arise under pension arrangements for the employees of the JV entity.

The tax costs must be considered on an ongoing basis. An important difference between a joint venture carried on through a company and a non-company structure is that profits of the former arise directly to the company and are distributed outwards to participants.  This may carry double taxation, at the corporate level and shareholder level

The double taxation of profits may be less of an issue in many cases. In domestic and EU ventures, a corporate shareholder may usually receiver dividends free of tax. A corporate holding more than 5% of the shares will be relieved from capital gains tax on its capital receipts. Even in other cases, there may be a considerable advantage in leaving income in the company, in view of the relatively low rate of corporation tax.

Advantages of Contractual JVs

A contractual joint venture has the advantage of a lack of formality. There is no corporate structure. There are potential savings in terms of administrative and companies reporting and filing obligations.

The arrangement may be tax efficient in that the parties continue to be taxed as themselves. There is no independent taxable entity. There is one layer of tax only.

The single layer of tax may be particularly useful in the earlier years where there are losses which may not necessarily be otherwise capable of transfer to and use by the participants against their taxable profits generally.

Disadvantages of Contractual JVs

A disadvantage of a contractual joint venture is the lack of an identifiable structure for development, marketing and dealing purposes. The lack of a corporate entity may undermine the organisational structure. A corporate vehicle provides a natural management and governance structure for the venture.

There is a loss of limited liability for the venturer, and each participator may be exposed to a risk it would rather not be exposed to.

In the common law world, common law partnerships and the codifying partnership legislation has tended to deemed parties to a common venture to be partners, irrespective of their designation if they in substance enter an agreement which provides for the sharing of profits and losses.

This leads to issues of liability for parties. There may be particular tax reporting obligations. Partnerships are recognised in broad terms in most continental European jurisdictions.

Partnership Issues I

The following are significant issues which arise in the context of ordinary contractual and partnership joint venture. Arrangements which are not intended as such to be partnerships may be characterised as such, where they have the requisite elements of profit sharing and business in common.

The partners are agents of the firm and are liable for each other’s obligations entered within the scope of the firm’s business. This may raise significant risk for the partners concerned as it applies unconditionally, regardless of the actual authority of the other part. This position can be modified by the relevant partners being themselves corporates.

A disadvantage of a partnership is the absence of an entity with which third parties may deal and refer. The participators themselves are liable (usually jointly and severally) for their obligations to the third parties. There is no reason in principle why the participating entities may not themselves be standalone corporate subsidiaries which have limited liability.

Partnership Issues II

The default arrangements for management under the Partnership Act may not be suitable. A partnership agreement or a deed should provide for the management structure. The agreement should provide rules for the distribution and sharing of profits and losses. The default Partnership Act rule provides for the sharing of profits and losses equally.

Partnerships are tax neutral. Each entity is taxed separately on his / its proportionate part of profits of the partnership trade. There may be administrative obligations on one partner to make returns to the Revenue authorities (although the actual liability remains separate).

A number of terms are implied under partnership legislation. In particular, in the absence of agreement otherwise, any partner may terminate the partnership by notice. This may be very disorderly by bringing down and liquidating a business structure at short notice.

Each partner may take part in the management of the partnership. This may not be appropriate and may be inconsistent with the intended management arrangements.

Partnership Issues III

Loans to partnerships bear a 5 percent interest. A new partner may not be introduced without the consent of all partners

Each partner owes the other partners fiduciary duties. He may not take advantage of any partnership property or assets including information and business opportunities. He must account to the partnership for any benefits so received, transactions unless they obtain the consent of all partners.

The Irish Limited Partnership Act is out of limited practical use as a joint venture vehicle. The  Act allows for a limited liability partnership in which there is a general partner with unlimited liability (which can be a limited liability company) and other limited liability partners.

The limited partners cannot participate in the management of the partnership without loosing their right to limited liability. Accordingly, this mechanism may only be suitable for undertakings where the participants are passive investors.