Joint ventures: Governance considerations

Who owns the joint venture company?

An incorporated joint venture will either be owned by shareholders with an equal interest in the joint venture company, on a majority/minority basis or by multiple shareholders each with a minority interest.

The shareholders’ interests in the joint venture may either be fixed or subject to adjustment. If the shareholders’ interests in the joint venture company are intended to be fixed, the shareholders will usually hold different classes of share and the rights each shareholder enjoys will be expressed to be class rights which may not be changed without renegotiation of the joint venture agreement and amendment of the company’s constitutional documents. If the shareholders’ interest in the joint venture company may change, shareholders rights are usually tied to the holding of a certain percentage interest in the joint venture company; this allows each shareholder’s rights to flex as their interest in the joint venture company increases/decreases and new shareholders may join without amending the joint venture agreement or the constitutional documents of the joint venture company.

Quorum requirements are usually based on the number of shareholders (any two shareholders may constitute a quorum for meetings); on the number of shares held (at least two shareholders holding more than a certain percentage of the total share capital of the joint venture company); or to protect the specific interests of a certain party/ies (two shareholders provided that a certain shareholder is present/represented).

Who appoints the directors of the joint venture company?

In the UK, the day-to-day operations of the joint venture company will usually be overseen by a single board of directors with each director appointed by a shareholder. Shareholders may have fixed director appointment rights or their right to appoint a director may be dependent on holding a particular percentage of the issued share capital of the joint venture company. In the case of appointment rights tied to shareholding, if the shareholder reduces its shareholding so that its entitlement to appoint directors reduces, usually the last director appointed by that shareholder will automatically vacate his/her office. Quorum requirements at board meetings will usually be set on the same basis as quorum requirements at shareholder meetings (see above).

Shareholders may be able to appoint/remove directors in their sole discretion by notice to the joint venture company or appointment of a director may be subject to the director meeting certain criteria, consultation with other shareholders or, more unusually, subject to the prior approval by the other shareholders and/or the existing board.

There is usually a maximum number of directors who may be appointed to the board of the joint venture company. Particularly where there are multiple shareholders, it may be advisable to consider carefully whether each shareholder should have board representation or whether that may make the board too unwieldly to be effective. If there are shareholders who do not have board representation, it may be worth considering whether those shareholders should be able to appoint board observers (who can attend board meetings but not vote) for information purposes.

Who runs the joint venture company on a day-to day basis?

Subject to the size of the joint venture’s operations and its ability to operate independently of its shareholders, the joint venture company is likely to be run on a day-to-day basis by a management team who may have specific delegated authority from the board to make certain decisions. A majority shareholder may retain the right to appoint key executives (CEO, CFO, etc.) or the appointment of such executives may be a reserved matter (see below).

How are key decisions made by the joint venture company?

Under English company law, certain decisions are reserved to the shareholders to determine either by ordinary resolution or special resolution – this would, for example, include changes to the joint venture company’s constitutional documents as well as various actions in respect of the joint venture company’s share capital.

Joint venture agreements also usually contain a list of “reserved matters” which may only be undertaken by the joint venture company with the special approval of a certain percentage of shareholders or directors. The number of matters that shareholders choose to “reserve” for shareholder decision will depend on how autonomous the joint venture company is expected to be.

If unanimity is not appropriate, the voting threshold required to pass a reserved matter may be fixed at a certain percentage or a particular shareholder may be granted veto rights over certain key matters. Reserved matters may be confined to especially sensitive issues and/or fundamental issues such as activities relating to the company’s constitution, share capital, regulatory matters, material contracts, appointment of key personnel and material litigation but may cover a more extensive range of matters where the circumstances of the deal make this appropriate. Reserved matters are usually intended to protect the interests of a minority shareholder but may also operate to protect a majority shareholder in cases where the minority shareholder’s interest is sufficient to achieve a result e.g. seeking to wind up the company or taking other actions designed to put pressure on the majority shareholder.

If the company is party to the joint venture agreement and the reserved matters regime also binds the company it is important to ensure that the reserved matters do not constitute a fetter on the statutory powers of the company because there is case law in the UK which would render such a restriction void.

There may be tax considerations around where key decisions are made as this can influence the tax residence of the joint venture company.

How do the joint venture parties address conflicts of interest?

When parties agree to a joint venture there is usually a reasonable basis to believe that the parties have similar or well-matched interests which will facilitate decision-making at shareholder level. In the case of an incorporated joint venture, the directors will have a duty to promote the success of the company for the benefit of its members which, in principle, should align decision-making at board level with decision making at shareholder-level.

However, shareholders’ interests may in fact diverge over many matters including the strategy and direction of the joint venture, the means and extent of funding the joint venture, any ancillary arrangements (such as where the joint venture company is to enter into a transaction with one of its shareholders or a shareholder is otherwise contributing services or assets to the joint venture) between the joint venture and a shareholder or where both a shareholder and the joint venture company wish to pursue the same business opportunity.

While the shareholders are free to vote on decisions in their own self-interest, the directors appointed by the shareholders have a duty to promote the success of the company for the benefit of all its members. Where the shareholders are aligned, the directors’ duties should align decision-making at board and shareholder level but where the shareholders’ interests diverge the directors’ fiduciary duties may set them at odds with their appointing shareholders. In addition, if the joint venture runs into financial difficulties, as insolvency becomes probable, the directors must have regard to the interests of the joint venture company’s creditors rather than shareholders which may also set the directors at odds with the interests of their appointing shareholders.

The parties should consider whether it is appropriate to allow a shareholder/their appointed director to vote where there is a clear conflict, whether certain conflicts may be authorised and the adjustments to quorum requirements which may need to be made where shareholders/directors are not permitted to vote. It may also be worth considering whether to appoint any independent directors to the board of the joint venture company as an independent director may be helpful in combating uncertainty arising from a conflict situation as well as having the potential to reduce the potential for the board to become deadlocked.

In some circumstances, it may be possible for the joint venture agreement to prescribe that in the event that a shareholder has a conflict of interest in its dealings with the joint venture company, (for example, in the event that a dispute arises in relation to a contract between the shareholder and the joint venture company) it will be for the other shareholder or shareholders to make decisions on behalf of the joint venture company in respect of that matter.

How can the governance of an unincorporated joint venture work?

The governance of an unincorporated joint venture can be a difficult area because the parties lack the structure of an incorporated vehicle. However, the parties to an unincorporated joint venture have the flexibility to create a governance structure from scratch, without the established governance procedures and responsibilities which apply to an incorporated joint venture. This may allow the parties to come up with a more agile governance structure and to enjoy the benefits of less administrative burden. However, it is often the case that the parties will attempt to replicate the governance structures which apply to an incorporated joint venture with the contractual parties taking the place of shareholders and a steering or management committee taking the place of the board of directors. Documenting the governance of an unincorporated joint venture can be more time-consuming and controversial precisely because of the flexibility and lack of a tried-and-tested framework of procedures and responsibilities.