Joint Venture Agreement

Before reading this article, please make sure you have a joint venture agreement to hand or use the one we supply - http://www.property-system.com/index.php?pageid=investing   

A familiar question heard by new property investors is ‘would you like to JV with me?’ A further question then asked internally by new investors is ‘what is a JV and how do I do one?’

‘JV’ is short for ‘joint venture’. Simply put, a joint venture is a project undertaken by two or more parties. For our purposes such a project could be a group of investors coming together to purchase and develop a property or simply a group purchasing a property which creates good monthly rents but which they probably could not afford on their own or perhaps they want to spread the risk.

In addition to spreading risk, the key benefit of joint venturing is the pooling of the resources and knowledge of each member of the group. Each member will have a specific skill or resource they can bring to the project that will benefit the group as a whole. For example, having a lawyer as a member of you project means that the lawyer can oversee all legal requirements and hopefully keep legal costs down. Joint venturing with Kevin means you can take advantage of his extensive property knowledge and contacts.

That I hope answers the first question of what is a joint venture. The second question of ‘how do I structure it?’ is a little more complex. A joint venture can be structured in many ways and through several different vehicles. The three most common vehicles are through a partnership, a limited liability partnership (an LLP) or a limited liability company. LLP’s have recently started to become a popular trading vehicle amongst investors due to their lack of formality in how they are run (like a partnership) and the ‘partners’ ability to limit their liability (like a company).

However by far the most common structure used by people when setting up a joint venture is to operate it through a limited company. Therefore that is the agreement we have included with The Creative Property Investment System. This agreement is for people who wish to joint venture together in a project. Each member of the venture will be a shareholder in company that will own the property that is the subject of the joint venture. The company will have enough funds to purchase the property as it will have been lent the money by its shareholders and maybe raised finance through a bank (please see the Company Trust Deed as to how a company can own a property even though its name will not be on the title deeds).

For example (and please note that this is a very simplified example), Kevin and I wish to develop a property together. Both Kevin and I enter into a joint venture agreement and form a company called NewCo Ltd and we will be 50-50 shareholders.  Both Kevin and I lend NewCo Ltd £15,000 each so it can put down a £30,000 deposit to purchase a property. The Halifax will be lending NewCo Ltd the remaining £250,000 it requires to purchase the property and complete the renovations. Once all the renovations are successfully completed we sell the property for £500,000. NewCo Ltd pays back the bank £260,000 and Kevin and I our £15,000 loans. That leaves £210,000 profit that belongs to the company. Kevin and I had previously agreed that once the property had been sold the profits would be returned to the shareholders through a dividend rather than be reinvested in another development.  Therefore as 50-50 shareholders we are both entitled to split the £210,000 profit (£105,000 each) that the company deposits into our bank account. That brings our joint venture to an end.

Now because that all seemed so simple I can hear you ask why do I need an agreement, especially as I know Kevin and trust him?

The principle reason I had the agreement in place was because I did not want to lose my initial £15,000 investment by way of deceit or incompetence. The agreement set out exactly each of mine and Kevin’s obligations and how NewCo Ltd will be run. This was to avoid any confusion or arguments in the future. There are many reasons why you should have a joint venture agreement but I set out below what I consider to be the four most important reasons.

The joint venture agreement will set out how the company will be run, what will happen to the property and any monies raised, what decisions can be made by just one member of the venture and what decisions will require consent from all the members. If there are many shareholders involved in a big project then a decision will need to be made as to who will be appointed directors of the company and what decisions they are entitled to make and what decisions only the shareholders can make.

The second reason for having an agreement is to protect your rights as an individual shareholder. In certain specific cases you must have a veto to stop the company from doing anything that may harm your rights (for example one director buying a BMW car instead of using the money for the deposit).

The third reason relates to setting out what the company will do if there is deadlock between the shareholders as to how the company will be run. Ensuring that you adequately set out how this deadlock will be resolved is vital to protect your interest and ensure that the company does not get bogged down so it cannot act because one fellow shareholder is being a pain!

The last and most vital reason for having an agreement is to set out what to do if the company needs to be broken up or one shareholder wants to leave but the others do not. The reality is that prospective investors who are excited about the potential of their proposed venture rarely give any thought as to how the parties will exit (under good circumstances or bad). Whilst everything is peachy and all shareholders get on everything is fine. As soon as relationships break down and/or interests start to diverge then that is when a good joint venture agreement will protect your interests and give you security. It is better that the exit scenarios are agreed before money is given to the company. I know it is bit like a lawyer discussing a divorce agreement on the night of the engagement but at least everyone will be aware of his or her rights and obligations from the start.

The agreement itself explains how each of the above issues is achieved.

Before we review the specific clauses please note that the joint venture agreement included in this pack is a fairly comprehensive precedent that covers most commercial issues encountered in the City. I would therefore be surprised if all were applicable to your venture. We have not included a wizard in this document, as it was just too complicated to do. Instead we leave square brackets within the agreement that tell you when to fill in some information or to make a deletion if wording is not required. You will also note clause numbers within the clauses are bracketed. This is to remind you that should you delete any clauses you do not require then all the clause numbers mentioned within the document will need to change to reflect the new numbers (e.g. Clause 19.2 makes reference to clause 19.3.2. If clause 16 was deleted, as you do not require a dividend policy then 19.3.2 should now in fact read 18.3.2 as all clause the numbers would change. You should ensure that your lawyer picks up all these number changes).

Again we reiterate the point that prior to entering into any joint venture agreement based on this precedent you must take legal advice to ensure your position is adequately protected. What this precedent is supposed to do for you is show you what issues you will need to focus on with your fellow joint venture members when negotiating a deal.

This agreement has been drafted in clear English so it is easy for you to understand. However by its very nature some of the commercial issues dealt with are complex, hence the reason why you must take legal advice before entering into an agreement. We would however draw your attention to the following clauses that we consider to be the most important:

Parties

This agreement is drafted on the basis that there are only two members of the joint venture group and each party will own either ‘A’ or ‘B’ shares. If there are more parties then just assign each new party a different class of share (e.g. ‘C’ and ‘D’ shares). You will need to instruct your solicitor to actually ensure the company has the relevant classes of shares.

Part 3 is the joint venture company.

Clause 3

This clause 3 is key as it sets how the company will be set up from the beginning.

3.1.1 & 3.1.2               Insert here how many shares each member will have.

3.1.5 & 3.1.6               Insert who will be directors of the company.

3.1.7.1              State who will be chairman of the company. Please note in this agreement the chairman of the board does not have a casting vote in the event of deadlock.

3.1.10.1          If money is being lent to the company then mention it here. If loan stock is bit over the top then you could simply say the company accepting loans of ‘X’ in the form of the facility letters attached. The important point here is that the shareholders and the company all agree on the terms under which they are lending money to the company.

3.1.11If the company is going to employ a specific employee or consultant then their names should be entered here.

Clause 4

4.1                                      State how many directors are allowed to be appointed.

Clause 5

This is another key clause. It is this clause that sets out the how company will be run on both generally and on a day-to-day basis. Clearly it is might be impracticable to always get shareholder consent on every minor issue and therefore this clause sets out what the company can do and how much money can it can spend before obtaining shareholder approval. Read each sub clause carefully and note the blank square brackets.

Clause 6

This clause sets out what the company cannot do without the consent of each shareholder. This clause protects the shareholder from any deceit on the part of the other shareholders and/or directors. Again please note the square brackets.                       

Clause 8

This clause sets out how the shareholders will make loans to the company.

Clause 9

This clause states that if one shareholder gives a personal guarantee (the Guarantor) on behalf of the company then the other shareholders will indemnify the Guarantor for their respective share of the costs should the Guarantor be required to pay up. The rationale behind this is that the Guarantor is guaranteeing the company on behalf of all the shareholders so therefore it is correct for all the shareholders to meet the costs equally should the Guarantor be required to pay.

Clause 10

This clause states that a shareholder cannot transfer or charge (or do anything to) his shares without the other shareholder’s consent.

Clause 14

This is a non-competition clause that probably might not be appropriate for a property deal. However it is included for fullness. You will need to define what the ‘Territory’ is in the definition section at the front of the agreement (e.g. ‘inside the M25’). Always seek legal advice on these clauses, as Courts love to declare them void if they consider them to be too harsh!!!

Clause 15

A warranty is a statement if fact. This clause can provide comfort to each shareholder that the shareholders have been honest with each other in their dealings to date and nothing underhand has happened prior to any shareholder loans being made to the company. Any breaches of these statements of fact are considered by the courts to be very serious.

Clause 16

If it is intended that the company will declare dividends then state the policy here.

Clause 18

This deals with what will happen in the event of a deadlock in the company. Carefully review the clauses to ensure you are happy with its contents.

Clause 24

This clause sets out how long the agreement will last for. In practice if the joint venture is only intended to last for one project then as soon as the project is completed you will have your accountant/lawyer liquidate the company.