Joint Venture
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What is a Joint Venture?
The term joint venture (JV) refers to an
agreement between two or more parties to conduct business together and to use their resources jointly for a specific purpose. Therefore, two independent companies form a subsidiary. The duration, or even the size, of a joint venture can vary. In light of this, joint ventures may differ in a variety of ways, including the number of parties involved, the scope of the cooperation (the project could be related to only one business unit, for example), the equity participation (all parties need not be equally involved), the period of the joint venture, as well as its location. Profits are shared, as well as risks, costs, and potential losses. All parties involved are also responsible for the management.
Reasons for Forming a Joint Venture
The formation of a joint venture is generally motivated by four factors.
- Utilization of resources: A joint venture maximizes the utility by using all the resources of all parties involved. It is thus possible to take advantage of the strengths of all parties.
- Cost savings: Economies of scale ensure that costs can be saved. There are economies of scale when, for instance, a large number of products are produced. Resources can be pooled in order to achieve this goal. There is always a proportion of fixed costs that cannot be reduced (for example, rent). There is no change in the fixed costs as long as production is within capacity. By combining resources, the maximum potential can be realized.
- Combined expertise: Different parties can combine their expertise by working together.
- Entry into foreign markets: Access to foreign markets can also be an important advantage.
Advantages and Disadvantages of a Joint Venture
The joint venture offers the advantage of access to resources without having to invest a considerable amount of capital. In addition to leveraging resources, cost savings can be achieved, expertise can be combined, and some companies are able to access foreign markets. After the joint venture, each company is able to resume normal business operations and does not lose its identity. The risk is also shared by all parties.
Some joint ventures have disadvantages, such as restrictions on external activities during the course of the joint project. It is possible that the contracts may adversely affect existing relationships with suppliers or other business partners. There is also the disadvantage of the coordination effort and the potential outflow of expertise.
Joint Venture - Types
There are several types of joint ventures. In most cases, when we refer to a joint venture, we refer to an equity joint venture. Contractual joint ventures can also be used to conduct joint business activities.
Equity Joint Venture
An equity joint venture involves the establishment of a new independent company. Joint stock companies may benefit from the ability to finance themselves externally and have access to capital markets. In an equity joint venture, each company can participate in a different manner. It is also common for lower equity participation to result in a reduction in decision-making authority. Parties share profits and losses.
Contractual Joint Venture
A contractual joint venture does not result in the formation of a new company. Therefore, the joint venture is governed by contracts negotiated and concluded between the two companies. It is generally possible to structure contracts in a more flexible manner. It is possible, for example, for the parties to determine how profits and losses will be divided among themselves. There can also be a free distribution of voting rights. The liability of an equity joint venture is limited to equity capital (legal form: corporation). This is not the case with a contractual joint venture.
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