Mod 4

Module IV: Incorporated Joint Venture

Introduction:

An incorporated Joint Venture is also referred to as Equity based Joint Venture or a Joint
Venture Company. In this category of Joint Venture, the participants arrange to incorporate a
separate legal entity to initiate the project in their favor. The equity share of the JV Partners is to
be understood by the percentage of shares held by them. On frequent basis, the rights and
obligations are severally negotiated. The JV Partners undertake to provide monetary resources or
other resources as their contribution to the assets or other capital of that legal entity. This
structure is best suited for long-term JVs.

An Incorporated JV can be established in the following forms:
1. JV Company
2. JV LLP

1. JV Company: The parties to the JV would establish a joint venture company, in
accordance with the Companies Act, 2013 and shall hold the shares of such company as
agreed. It facilitates better management and employee structure. JV partners have the
advantage of flexibility to raise funds and limited liability. The JV Company survives as
the same entity despite of any change in its ownership.

The three most common ways of creating of joint venture companies may be described as
follows:
i. Subscription to Shares: Parties to the JV establish a new company and subscribe

to its shares in mutually agreed ratio, terms and conditions, and commence a new
business. This route facilitates structural flexibility regarding creation of an entity
which is customized to suit the requirements of both the parties. The documents
of incorporation, i.e. the Memorandum of Association (MoA) and Articles of
Association (AoA) of the JV Company should be drafted in a manner so as to
reflect the intention, rights and obligations of the parties.

ii. Business Transfer or Technology Transfer: One of the parties shall transfers its
business or technology to the newly incorporated company in lieu of shares issued
by the company. The other party shall subscribe to the shares of the company for
cash consideration.

iii. Collaboration with the Promoters of an Existing Company: A proposed JV
partner can acquire shares of the existing company either by subscribing to new
shares or acquiring shares of the existing shareholder(s). The MoA and the AoA
of the existing company would be amended accordingly.

2. Limited Liability Partnership: In 2008, the Limited Liability Partnership Act, 2008
introduced the concept of limited liability partnerships (“LLPs”) in India. LLP is a
partnership form of business structure wherein, it provides the benefits of limited liability
to its partners and allows its members to flexibly organize the internal structure as a
partnership based on an agreement. LLPs have basic features of a corporation including
separate legal identity, which is not available in an ordinary partnership structure. The
LLP Act permits the conversion of a partnership firm, a private company and an unlisted
public company into an LLP, in accordance with specified rules. Foreign Direct
Investment is permitted in LLPs only under the government route. Due to these
advantages, the JV can also be incorporated as LLP.

Share Purchase v/s share subscription.

A Share Purchase Agreement (SPA) is a document which is executed when there is a
transfer of shares from an existing shareholder to another prospective investor. The
purpose of this document is to enable the transfer/sale and purchase of the shares
from the existing shareholder in favor of the incoming investor. Such an agreement
details the consideration and the number of shares to be sold and on what conditions.
it gives the liberty for both to guard their concerns well ahead of the transfer of
shares. As an all-inclusive agreement, it protects all facets of the business dealings
and is vital for the parties involved to analyze every condition included in the
agreement and thereby comprehend its meaning. Such a document gives both parties

a chance to protect their own interests before the shares are transferred. Being a wide-
ranging document, it covers each and every aspect of the transaction and is essential
for both the parties to examine each and every clause mentioned in the document and
understand its meaning.

A Share Subscription Agreement (SSA) is similar to a Share Purchase Agreement as both
contain identical clauses and both are identical in nature. The main difference between
the two agreements is, a share purchase agreement is executed when there is a transfer of
shares from one holder to the other, and on the other hand, a share subscription
agreement is executed when there is a fresh issue of shares by the company i.e. from
company to the investor. Thus, when SPA is executed, the money is received by the
person or entity selling its shares, while in case of SSA money is received by the
company issuing the shares.

Representations and warranties:

Representations and warranties are ordinarily submission of the elemental facts, on the grounds
of which the parties decide whether to enter into and consequently arrive at a consensus on the
transaction or to avoid entering into the transaction. Depending upon the nature of the deal,
definite representations and warranties may be made by one JV partner to the other JV partner
and/ or to the JV entity and vice versa. The scope of the representations and warranties would
vary depending upon the purpose, bargaining power of the parties, the extent of shareholding etc.

It is often appropriate for JV partners to provide for representations and warranties regarding
themselves to the other joint venture parties. This is mainly to assure the other party of one’s
financial standing and confirmation that there will be no unpleasant events once the JV Company
is established. Individuals may also be required to give representations regarding prior works,
past criminal proceedings, bankruptcy chargers, etc.

When a business or an asset is being transferred to a JV entity by one of the JV Partners, such
partner will not only give representations and warranties to the to the JV entity, but also to the
other joint venture partner, as often the JV partner participates and receives a stake in the JV on
the basis of the assets transferred. Persons making representation would usually try to limit the
warranties given and the time period for which they are given.

Terms and conditions of JV agreement:

1. Detailed explanation of business: The JV agreement should contain a detailed
explanation of the business to be conducted.
Eg: Joint Venture Company for construction of a particular project like roads, buildings,
railways, parks, supply of water, electricity, etc.

2. Role and contribution of each partner: The contribution of each of the partners to the
JV entity should be described. The parties may agree to make financial participation,
provide technical knowledge, skill and shall in all respect bear its share as regards
planning and execution of the work and responsibilities including provision of
information, advice and other assistance required in the Joint Venture and participation
shall be in agreed ratio.

3. Non compete clause for partners with respect to JV Businesses: Indian Contract laws
prohibit making of contracts which enumerates non-compete agreements wherein an
individual is restrained from freely practicing any trade or profession. However, there are
certain exceptions to such a restriction, especially in cases where there is a sale of
goodwill. In other words, it restricts one party from conducting a similar trade or
business to the other party’s trade or business for a given time within a given
geographical area. A non-compete clause is valid if it is commercially related to the
purpose of establishment of Joint Venture.

4. Management of the company, voting rights, quorum: Representation on the board of
directors of a joint venture is dependent on the shareholding agreed to between the joint
venture parties. Generally, decisions of the board of directors are subject to the approval
of the majority of directors present and voting, subject to the requirement of meeting a
quorum. A director is also entrusted with a number of statutory duties and obligations,
the breach of which can attract penal provisions under various laws. Usually, the joint
venture agreements provide shareholding thresholds for the exercising of rights in
relation to control and management of the joint venture entity.

5. Protection of minority JV Partner:
Control over joint venture’s decision-making by the minority investors can be protected
by incorporating provisions in the joint venture agreement that would increase the
threshold required for the passing of certain resolutions. Providing for veto rights or
requirements for special quorum for meetings of the board or of shareholders ensures
representation from the minority investor.

6. Deadlock resolution:
Resolving a dead lock is one of the main concerns in joint venture transactions. A
deadlock is usually faced when there are two parties having equal control of the Joint
Venture entity, are in dispute and neither party is willing to give up their respective
control to the other which, if not resolved within specific time period, can terminate the
joint venture and cause it to become ineffective.

While there are no definite ways of resolving conflicts and deadlocks, some of the
measures to resolve the deadlocks are:

• Mutual discussions or negotiations between joint venture partners to come to a workable
solution.

• The chairman’s casting vote, so that neither party is deadlocked out of a disagreement.
• Mediation and conciliation.
• Binding dispute resolution clauses (i.e., arbitration or litigation).

7. Transfer restrictions:
Parties enter into a Joint Venture agreement with the intention to continue the ownership
of the entity. For this reason, there are a number of conditions placed on the transfer of
shares by such parties. Conditions like pre-emptive rights and rights of first offer or
refusal are put in place to ensure that the ownership and control of the JV is in the hands
of the partners or those they approve of.

Pre-Emptive Right: In the event of a fresh issue of shares to a third party by the Joint
Venture Company, a pre-emptive right-holder will be the first who shall exercise the
option to subscribe to these shares. A preemptive right is generally exercisable on the
same terms and conditions offered to the third party. In such cases, a pre-emptive right
offers the right-holder the power to prevent new third party investors from entering the
Joint Venture Company.

Right of First Refusal: A right of first refusal entails that in the event a shareholder in
the JV Co intends to sell its shares to a third party, the right-holder must first refuse to
purchase the shares in question. The reason behind granting such rights is that the Joint
Venture partners are given an opportunity to restrain any third party from entering into
the Joint Venture, where they are certain that the selling JV partner is determined to exit.

Right of First Offer: A right of first offer may be exercised in the event when a
shareholder in the Joint Venture Company intends to sell his shares, he may only do so
after offering the shares to the right-holder. The difference between this right and a Right
of First Refusal is that with a Right of First Offer, the right-holder has a greater say in the
price at which he may purchase the relevant shares. While the selling Joint Venture
partner has the option to reject the right-holder’s offered price, having the first right is
generally beneficial to the right-holder.

Tag Along Right: A Tag Along Right grants the right-holder a right to take (stick along
with his own shares) on the sale of shares of another shareholder and sell their shares to a
third party purchaser on the same terms and conditions.

8. Exit rights:
There may be cases where, one or more parties may want to exit the Joint Venture
Company. If all the partners don't intend to exit, the exiting partners can decide to sell
their shares to those who choose to remain as partners in the Joint Venture
Company. Most joint ventures terminate when a partner buys out, where one partner
either sells his shares in the venture to the other partner or buys their stake from them. A
Joint Venture Company may also be sold to a third party buyer, thus providing an exit for
the various Joint Venture partners and allowing them to liquidate their shareholding.

9. Events of default:
Not all Joint Ventures last forever. In fact, there are many Joint Ventures which have a
specific objective, and post achievement, the partners may choose to exit from the
venture. A drag along right can prove to be very useful, especially where the third party
purchaser wants a stake of the shareholding of the company than the individual right-
holder can provide. Joint Venture Agreements often contain certain ‘events of default’
upon the occurrence of which non-defaulting parties shall have the right to terminate the
Joint Venture Agreement. In case of such an event, a drag along right may be included as
a default provision which may be exercised only upon the occurrence of such an event.

10. Arbitration and jurisdiction:
At times there may be disagreements between the Joint Venture partners. There are
various mechanisms for resolving such disputes. Arbitration is a popular mode of dispute
resolution, with a number of arbitral institutions being established in India. In any Joint
Venture agreements, it is necessary to identify the governing law to determine the
substantive law that is applicable to any legal proceedings which may arise from the
agreement. Some jurisdictions may have better or faster mechanisms of delivering justice
than others, thus, choice must be made after studying the options. Indian courts are
generally overburdened and therefore lead to various procedural delays to get in the way
of a normal hearing process. While it is usually faster than approaching the courts,
various factors need to be considered in choosing arbitration. In India, arbitration is

governed by the Arbitration and Conciliation Act, 1996. One of the significant
advantages of arbitration is a reduction in or elimination of procedural delays. Arbitration
generally tends to be more expensive than litigation.