There are many different reasons why a business may seek to enter into a joint venture. It may wish to access new markets, develop new products or benefit from the particular expertise of its joint venture partner or share risks and resources. Curtis has worked on a diverse range of joint ventures in Oman across all industry sectors. We understand the importance of ensuring that the joint venture structure and documentation encapsulate the underlying commercial objectives of the participants, whilst also being appropriate for the scale or complexity involved.
The phrase “joint venture” can have a number of different meanings. Oman attracts significant foreign investment so it may involve the partnering of Omani and foreign investors. The joint venture will typically involve the incorporation of a company to act as the joint venture vehicle. This article will focus on corporate joint ventures since that is the most common approach, although the phrase “joint venture” may also be used to describe a contractual arrangement, for example, in the areas of commercial agency, franchise and (less commonly) a simple, unincorporated contractual co-operation agreement.
Structuring the joint venture
Curtis has been at the forefront of the Omani legal market in our understanding of corporate law, including Sultani Decree 19/2018 (the “Commercial Companies Law”) and its practical interpretation by the relevant government officials and legal departments, enabling us to devise and implement optimal corporate structures for our clients.
We work closely with the relevant licensing authorities to ensure that various corporate structures proposed by us for joint ventures are acceptable. In our experience, such authorities are keen to engage with us to enable innovate corporate structures, given their objective of attracting and facilitating foreign investment into the country.
Our objective is to allow our clients to focus on their business and have a legal corporate structure that they know is robust and flexible enough for their short, medium and long term objectives.
Key provisions in joint venture or
shareholders’ agreements
In addition to our structuring expertise, Curtis also has a wealth of
experience in advising on the relevant joint venture documentation. Various documents will be required depending
on the circumstances of the joint venture, but typically the principal document
will be the joint venture or shareholders’ agreement.
The following are key provisions in any joint venture agreement (although
there are others which are not noted below):
- The purpose and scope
of the joint venture.
- Board composition and
management arrangements.
- Financing of the joint
venture company.
- Reserved matters
requiring consent of shareholders/directors and voting requirements.
- Dividend policy.
- Restrictive covenants.
- Deadlock resolution.
- Transferability of
shares under different circumstances.
- Termination or exit
from the joint venture.
Certain of these matters are discussed in more detail below.
1. Board composition and management arrangements
Board composition will usually be proportionate to each party’s shareholding. In a 50:50 joint venture, it would be normal for the parties to be entitled to appoint an equal number of directors, although this is not always the case. Any party that has minority representation on the board should require a number of issues to be reserved for shareholder approval, depending on the nature of control and veto rights which are appropriate to the joint venture. The list of shareholder reserved matters will often be one of the more heavily negotiated aspects of a joint venture agreement.
Under joint venture agreements, it is common for the shareholdings of parties to be subject to mechanisms that change these, e.g., on a capital call, one shareholder may subscribe for shares whilst the other may not, so diluting the latter shareholder. It is therefore important that board composition provisions cater for the possibility of change and enable board appointment rights to vary where a shareholder’s proportionate ownership has increased or decreased.
Day-to-day management of the business of the joint venture will often be delegated by the board to the general manager or CEO. In a 50:50 joint venture, the board will normally be entitled to appoint the general manager or CEO, but this is not always the case and in certain instances this right could be given to one of the shareholders. Whilst the general manager or CEO will have broad powers to operate the business on a day-to-day basis, it is important to ensure that certain key matters are reserved to the board or the shareholders. This is of particular significance for a shareholder where the other shareholder has the right to appoint the general manager or CEO.
2. Financing of the joint venture company
In any joint venture, the funding provisions need to be carefully tailored to reflect the parties’ chosen method or methods of funding the joint venture company. There are various options available but a typical process would involve the board of the joint venture company (or senior management such as the CEO) deciding that funding is required. Following this “funding call” an agreed mechanism will determine from whom funding should be procured (for example, loans from banks or other third parties or equity/shareholder loans from the shareholders). This would often be subject to shareholder approval, with the deadlock resolution mechanism being invoked if the shareholders cannot agree on any relevant issues within a stipulated timeframe (see Deadlock resolution below for further details).
Where the shareholders are obliged to make contributions (typically pro rata to their shareholdings), the agreement should clearly state what happens if one of them defaults. For example, should the other shareholder be able to fund the shortfall amount and receive additional shares, thereby further diluting the defaulting shareholder? Or should the other shareholder be entitled to provide a shareholder loan equal to the shortfall amount and, if so, should this shareholder loan rank ahead of all other shareholder loans and attract a preferential rate of interest? A failure to comply with a funding obligation would also typically constitute an event of default triggering the compulsory share transfer provisions, whereby the non-defaulting shareholder can elect to purchase the shares of the defaulting shareholder at a discount to market value (occasionally an option is also included for the non-defaulting shareholder to sell its shares to the defaulting shareholder at a premium to market value). These types of clauses are designed to incentivise the shareholders to comply with their funding obligations, providing the joint venture company with the financing it needs to successfully operate its business.
3. Dividend policy
It is important for the parties to consider the dividend policy of the joint venture company at the outset. This will often depend on the nature of the business, in particular on whether the joint venture’s purpose is intended primarily to be cash-generating or as a growth company.
The dividend policy will need to be clearly stated in the joint venture agreement in order to reduce the likelihood of a dispute arising in the future. One option is to provide for the distribution of an annual dividend of a certain percentage of the joint venture company’s annual profits. A more flexible option is to allow the board of the joint venture company to determine a reasonable level of dividend on an annual basis. In either case, it is important to include certain caveats – for example, dividends should only be payable to the extent that they comply with applicable laws (for example, regarding distributable reserves or requirements to maintain a reserve) and do not result in the joint venture company being in breach of any of its banking covenants. Where it is envisaged that the parties will make shareholder loans to the joint venture company, the joint venture agreement should make it clear that no dividends will be paid until all such shareholder loans have been repaid in full. The payment of dividends would often be subject to shareholder approval, with the deadlock resolution mechanism being invoked if the shareholders cannot agree within the stipulated timeframe (see Deadlock resolution below for further details).
4. Deadlock resolution
Deadlocks can arise in various circumstances, but the most common circumstance is when a board or shareholders’ resolution is not passed by the requisite majority of directors or shareholders, respectively.
It is usual to ensure that, as a first step, appropriate efforts are made by the parties and their representatives to resolve a deadlock. There could be a “cooling off period” during which the parties are required to use reasonable endeavours to resolve the dispute within a certain period of time. If they are unable to do so, referring the dispute to the chairman/CEO of each party can be a useful tool. It is not uncommon to refer disputes to an independent expert, although it may not be sensible to have a third party adjudicate on a matter of commercial or financial significance.
Other, more extreme options can be included but these should be used with caution as they have the potential to bring the joint venture to an end and can be manipulated by an unscrupulous party. However, such options include the following in a deadlock situation:
- “Russian Roulette”: Under this mechanism, any party may serve a notice on the other, either requiring the receiving party to purchase its entire holding from it, or for the receiving party to sell its entire holding to the initiating party, at the price set out in the notice. The receiving party then has a period in which to accept the offer made in the notice or reject it, in which case the roles of “vendor” and “purchaser” are reversed. This method ensures that a realistic price is set by the initiating party, as that party may either have to sell its holding, or buy the other's holding, at the price it states in the notice.
- “Texas or Mexican Shoot Out”: Under this mechanism, the initiating party may serve a purchase notice on the receiving party stating that it is willing to buy the other out and setting the price at which it is prepared to buy. The receiving party then has a period in which to serve a counter notice, stating that it either (i) is prepared to sell at the price contained in the purchase notice; or (ii) wishes to buy the interest of the initiating party at a higher price. If the latter situation occurs and both wish to buy, then a sealed bid system will be put into operation, with the person who bids highest being entitled to buy the other out. Alternatively, this bidding process can be run as an auction with the parties raising their bids in competition with one another. This is a starker mechanism than the “Russian Roulette” procedure. It is more openly susceptible to misuse where one party does not have the resources or desire to buy, requiring a strong nerve in that case to increase a low opening price.
Naturally, these mechanisms and the points raised above will not be appropriate for all joint ventures so it is important that the parties carefully consider the relevance and applicability of these provisions at the outset.
