Commit just one of the “seven deadly sins of joint ventures,” and it’s almost a guarantee that the project will become one of the estimated 40-70 percent of joint ventures that fail.
The term “joint venture” covers a wide range of collaborative arrangements in which two or more businesses decide to share the costs, management and profits of a project that achieves a common goal. Successful joint ventures can offer tremendous rewards to entrepreneurs, but those that fail cost entrepreneurs a significant amount of time, money, frustration and sometimes even certain intellectual property rights.
Despite the many different types of joint ventures, the reasons they fail boil down to a common set of mistakes made in the planning phases of a joint venture. Since these mistakes almost always doom the venture to fail, entrepreneurs should consider take great care to avoid the “Seven Deadly Sins of Joint Ventures.”
Gluttony: Rapid consumption of capital
Many joint ventures use up their initial capital much faster than the venture partners expected. Venture partners that failed to plan for the possibility that resources may be consumed too quickly may then struggle to determine the best way to raise additional capital and rush into an unwise loan to raise funds. Prudent joint venturers will anticipate the need for additional capital, and determine acceptable sources of funding in the initial joint venture agreement. For example, the agreement may state that the venture may seek additional capital contributions from venture partners or seek a third-party loan. The agreement must stipulate, however, the consequences to a venture partner for failing to meet required capital calls.
Wrath: Arguments over control
Many joint ventures fail because the venture partners are used to having control over their companies and struggle to compromise about how to run the joint venture. As arguments erupt, the relationship may deteriorate until the venture partners can no longer work together. Venture partners should assume that there will be conflict and appoint a board of directors with representatives from both companies to make decisions about how to run the venture. The board can then hire employees or contractors to manage the day-to-day operations of the joint venture. The joint venture agreement should determine which decisions can be made by management and which decisions require approval from the board.
Lust: Desire for assets
In their lust for a partner’s assets, entrepreneurs can make serious mistakes that may undermine the success of the venture. For example, an entrepreneur of a small technology company might agree to give a large corporation more control on the board of directors in exchange for a larger capital contribution. But in the long run, the entrepreneur may lose control over critical aspects of the venture, which could cause the venture to fail.
Partners in a joint venture should make sure that the assets each partner brings to the joint venture – such as intellectual property, capital or equipment – are appropriately valued and translated into reasonable shares of ownership and control.
Pride: Culture wars
Most entrepreneurs take great pride in the culture they have built in their company. But when two company cultures are combined into one venture, company pride can lead to unproductive arguments about using one company’s methods over another. For example, one venture partner may have a superior manufacturing process, but workers from the other company are reluctant to learn new methods, insisting that the old way is better. Joint venture partners should discuss in advance how they plan to handle cultural differences, and if necessary, train managers to help employees adapt to differences in company cultures.
Greed: Unrealistic profit expectations
Joint venture partners naturally want to see profits from the venture as quickly as possible, but distributing profits from a joint venture is rarely as simple as giving each party a share of the profits in proportion to their ownership. Instead, there will likely be a list of priorities to which distributions must be made, such as loan repayment or reinvesting a portion of the profits in the joint venture. The joint venture agreement should lay out how and when profits will be distributed and the order of priority in which the profits will be distributed.
Envy: Competing partners
Many joint ventures are born from a partnership between two companies that operate in the same or similar industries to accomplish a specific project. As such, the competitive interests of the two companies can create a fundamental mistrust and envy between partners that ultimately may cause the venture to fail. The joint venture agreement should set specific boundaries regarding information that must be freely shared and information that may be reserved. If necessary, the agreement should also determine how one or both companies will restructure their operations to avoid any conflict of interest.
Sloth: Waiting to plan an exit strategy
During the busy planning phase of a joint venture, founding venture partners are often slow to plan their exit strategy, assuming that it can wait until the venture is up and running. But what happens if one party breaches the joint venture agreement? Or one venture partner is dissatisfied with the results of the joint venture and wants to leave?
From the beginning of the joint venture, venture partners should consider all possible scenarios in which the joint venture may end. The joint venture agreement should lay out the terms and conditions for a variety of end scenarios to avoid arguments down the road.
Joint ventures have the potential to be tremendously successful, but certain sins during the planning phases can have a deadly effect on the success of the venture. Entrepreneurs should take care to avoid these sins when creating their joint venture agreements with their partners. If a venture partner refuses to address any of these “deadly sins” in the initial joint venture agreement, entrepreneurs may want to consider finding another partner.
Patricia E. Farrell is a partner at Pittsburgh-based law firm Meyer, Unkovic & Scott. She focuses her practice on a broad range of legal matters related to corporate and business law. She can be reached at [email protected].