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ESTABLISHING
A JOINT VENTURE
When
searching for a partner or partners, it is worth remembering that there
are a number of alternative possibilities:
Other firms from your own country
This can be especially attractive if the two firms have
complementary skills or technologies.
Other foreign firms
Private local firms
State corporations
Partnerships between more than two firms can work very well although
they do, of course, dilute the equity holding of each member. Whatever
the form of the joint venture, it is crucial to weigh very carefully
whether a proposed partner has the capabilities and attitudes you are
looking for. We recommend:
Obtaining an independent assessment of the partner's financial and
business situation
This usually requires hiring the services of a reputable, local firm of
accountants which can generally be done at a modest cost provided that
you state very specifically what information you need.
Trying to associate with firms of a similar size to your own
Where there are large disparities in the size of partners, a venture
can still succeed; but the smaller firm always runs the risk of being
overruled by the financial and marketing power of the larger.
Ensuring that both sides have similar medium and long–term
goals for the new venture
It is especially important to ascertain the capacity and willingness of
each to finance future growth.
Financial
matters
Paying for equity
For firms with limited resources, paying for equity
can be a difficult issue. It is, of course, possible to pay for equity
in a number of ways; for example, with machinery, patents, land,
buildings etc. But some liquid funds are almost always required as
well, and it is not uncommon for each side initially to expect the
other to provide them. On the whole, in cases where the partners expect
to have an approximately equal shareholding, we advise firms against
insisting that the other partner should pay a disproportionate share of
cash for his equity. Such an attitude is likely to be viewed with
suspicion; and in our experience it seriously diminishes the chance of
concluding a successful joint venture agreement.
Paying for part of the equity with goods rather than cash is attractive
to most firms; but placing a value on the goods is not always easy.
Imported machinery and forms of intellectual property such as patents
are often assigned an official value by the host government that may or
may not be in accordance with the supplier partner's own valuation. In
such cases, the official valuation is the only one that counts.
Debt financing
Subject to national regulations on debt/equity ratios, it is perfectly
acceptable to finance part of the new venture's initial capital and
most or all of the operating capital requirements through loan
financing. Avoid, if possible, incurring dollar–denominated
debts
unless you are willing, and have the resources, to hedge against
relative shifts in currency values or intend to export a large
proportion of your output in exchange for hard currency. Local
borrowing, despite what may seem to be horrendous interest rates, is
usually safer.
Profit distribution and remittance
There are many ways to receive profits from a foreign enterprise. Here
are some examples:
Dividends
Interest on loans made to the venture
Royalties on patents and transferred technology
Management fees
Fees for export or import marketing services
For example, a North American partner may take
responsibility
for marketing the joint venture's output in the NAFTA reagion and be
entitled to a fee based on sales.
Payment in goods and services
Retention of foreign sales income
In turn, each of these broad methods has available a number of
techniques of calculation. Here, for example, are some of the ways in
which royalty payments can be made:
Fixed sum based on units produced
Fixed sum for each unit sold
Percentage of gross selling price
Percentage of net selling price
All of these can be subject to:
A minimum or maximum per year
A decreasing percentage as sales increase
A remittance gross or net of local taxes
Some methods of taking profit from a venture are not acceptable
everywhere; and many countries have restrictions on the amount of
profit that can be remitted abroad in any year. Foreign exchange
controls, corporate and remittance taxes, the existence of a double
taxation agreement between the host and recipient countries, and
compulsory reserve requirements can all influence the level of funds
that can be withdrawn directly from a foreign enterprise. Be sure,
therefore, that you have a good understanding of the legal position on
profits. In order to avoid future disputes and misunderstandings, it is
essential for the partners to agree at the outset on the way in which
each will draw earnings from the venture.
Equally important, when deciding on profit distribution, is the need to
take account of the new venture's requirements for working capital,
expansion, acquisitions, asset replacement and retirement of debt. We
recommend strongly that partners establish an approach to these
questions at the outset.
Although tax and profit remittance regulations differ from country to
country, in Appendix One we have provided an example of a profit
calculation - drawn from a real case.
The
question of control
Who
controls the operation is an inevitable question in all joint ventures.
As far as voting shares are concerned, the alternatives are:
Minority foreign.
Majority foreign.
50%/50%.
49%/49% with 2% accorded to a third party
or variations of this arrangement.
But voting shares alone do not necessarily indicate who has effective
control. If, for example, one partner is the sole supplier of
technology or owns the trademarks to be used by the new venture, then
effective control can be exercised with much less than a 50% ownership.
Overall, some of the most important factors to take into account are:
Relative shares in the venture's profits and responsibilities for
financing growth.
Relative shares of the assets
Voting rights over:
– appointing directors
– profit distribution
– changes in structure or objectives
– patents and trademarks
– product quality
– global strategy.
Veto powers
Payments of fees for:
– licenses
– management
– directors
– special services such as marketing, auditing etc.
Host country laws on foreign investment
Some countries limit the amount of foreign ownership in
a new venture to a fixed percentage of the equity.
Naturally, there is no single best way of deciding on all these issues;
but it is important to be aware of them and to ensure that they are
understood and discussed by the partners before final commitment to the
venture.
Choosing personnel
As a general rule, we always advise firms to maximize the level of host
country personnel both at managerial and technical levels. Good local
managers will understand the rules of the game better than their
foreign counterparts, and they will frequently handle staff with more
competence. Goodwill is also created locally by demonstrating that the
venture is a "national" business. As a rule, salaries and benefits
should be as good as the best locally–accepted standards. In
specific cases there may be exceptions to this, but it is wise to tread
carefully when stepping outside the norms of established business
practice.
Of course, technical and managerial competence varies in each country,
and sometimes it is necessary to appoint expatriate senior executives.
The qualities to look for in expatriate managers are:
Willingness to make a personal commitment to the host country
Executives who remain aloof from the country may survive well enough,
but they will find it difficult to maximize the potential of the
enterprise. We have encountered a number of expatriate company
presidents who have never attempted even to learn the local language.
We leave it to the imagination of the reader to assess how effective
such managers tend to be.
People–oriented rather than
task–oriented
Knowing how to motivate local staff – who may
not
respond in the same way as your own staff – is one of the
keys to
achieving high quality work and good productivity.
It is as well to recognize that expatriate staff are expensive. They
usually have to be paid in hard currency, and require substantial
expense accounts and special benefits such as housing allowances and
school fees for children. This is an added incentive to use them
sparingly.
The
President
Who is to be president of the company? Here are some of the
alternatives:
One president nominated by either firm and agreed upon by both
This is the simplest scenario and the one that, in our view, works the
best.
Alternating presidents
each of whom has a limited tenure of office. This can
work
if, for example, two senior executives are available who work together
harmoniously. In this case they would alternate as president and
vice-president.
Joint presidents nominated by each side
Some ventures have tried this route; but it is
supremely hazardous. Disagreements can be paralyzing.
Functional executives
Each takes responsibility for a specific area of
operations
and they work together as a corps of equals. Large organizations can
sometimes operate in this way but the potential for damaging conflicts
of aims and opinions is always present.
We generally favour a single president, if possible, either a local
executive or an expatriate with substantial overseas experience.
Having made a case for employing local personnel, even in senior
management positions, we should emphasize that the foreign partner must
ensure that his/her interests are protected. For small ventures, the
foreign partner will need, at least, to have independent local auditors
and legal advisors whose responsibility is to provide reports on the
venture at regular (say annual) intervals. In larger operations, if the
president is a local national, we recommend that either the vice
president or the financial manager should be appointed by the foreign
partner.
Marketing
The major questions to be decided before start up are:
Who takes responsibility for marketing to third
countries?
With some exceptions the foreign partner is generally
more
experienced in this area. But the issue is fraught with potential
conflict because of the danger that the joint venture may compete and
compete successfully – with the products produced by the
foreign
partner at home. It is crucial to reach an understanding on how export
marketing is to be conducted. Local regulations may have an important
impact: in some countries it is strictly forbidden for
locally–based firms to sign agreements restricting their
ability
to export to other countries.
How are prices set and profits taken on trade between
the local venture and the foreign partner?
Again, many countries have laws regulating intra-firm
pricing; but on this issue the law tends to be much less effective than
a mutually–agreed policy between the partners.
What will be the corporate image?
And how will it be maintained? If the image of one of
the
partner firms is to be used, it is wise to remember what that image
represents. Quality, pricing, packaging, efficiency of service must all
be maintained – or improved – in the new venture.
Plant
and equipment
We generally advise clients to ensure that the condition of plant and
machinery, even if second–hand, should be as good as would be
expected in the developed world. The technological level is another
question. In some countries, such as Brazil, Argentina, Korea and
Malaysia, it is probable that the latest technology could be absorbed
with relatively little difficulty. This may not be the case in some of
the less advanced developing countries. Whatever decision is made on
the technological level of the new plant, it is well to recognize that
the issue can be politically sensitive. Some countries expect to
receive only the latest technology and resent the idea of being
recipients of outmoded methods. In other countries, influential
thinkers hold that older, labour intensive production techniques are a
more suitable means of creating employment and increasing local wealth.
There are, of course, no final answers to this question.
When establishing a new plant, it is important to ensure that staff
receive adequate training, safety procedures are in place, and steps
have been taken to provide spares and maintenance for the equipment.
Failure to attend to these issues has been responsible for many plant
failures in the developing world.
Working
in a different environment
"They have to do things our way if they want to
do business with us." This idea, however expressed, is one of the most
common mistakes made by executives who are new to international
business. We call it cultural monotheism: the religion of "we know
best". Reality tells us a different story. Most countries, in fact,
have quite distinctive ways of conducting their affairs, and the astute
foreign executive quickly learns that one of the secrets of success in
international business is to understand how other nations work.
Among the most significant cultural items to be aware of are:
Attitudes towards work and achievement
In some countries, effective work is considered to be a
team
responsibility and not the result of individual effort. Rewards given
for individual achievement can, therefore, be an embarrassment. In
other cultures, the reverse is true: individualism is paramount and
teamwork exceptionally difficult to achieve.
Concluding deals and contracts
North Americans and Europeans are used to making quick
decisions and concluding deals on the basis of objective evidence, such
as price and quality. In Latin America, product attributes certainly
matter, but equally important, is the personal relationship established
between the contracting parties. A Mexican, for example may expect to
show you some of his country, take you to a couple of the finest
restaurants in town, and generally demonstrate the qualities of local
hospitality before even beginning to think about a business discussion.
In many countries a signed letter of intent is of much less
significance than a warm handshake.
Patterns of decision–making and authority
In some countries, the boss is infallible and it would
be
unthinkable to offer suggestions to him or to do other than acquiesce
in whatever he might suggest. Directly asking employees about future
strategy, therefore, would meet with bewilderment; and it is necessary
to learn quite different techniques from those that would be
appropriate in your own country for drawing on the skills and knowledge
of staff.
Expressing disagreement
It is probably easier to offend people's sensibilities
in
this area than in almost any other. Learning how to say "I disagree"
with politeness is an asset everywhere.
The
role of government
All business conducted abroad has a political dimension; and foreign
investment is invariably subject to formal controls and regulations.
Before making an investment decision, it is essential to appraise the
local political situation, especially in terms of current and likely
future stability and attitudes towards foreign participation in the
economy. Recent history has shown that foreign investment in certain
sectors such as utilities, communications and extractive industries
carries a higher–than–average risk of incurring
political
disapproval. In these industries, especially, it is important to
ascertain the views not only of the government, but also of any
powerful opposition groups who may be in a position to influence
national policy.
Dealing with government agencies and bureaucracies can be taxing for
any newcomer to a country. Often, questions that we may feel to be
trivial can become tiresomely complex in other parts of the world.
Newcomers to North America or Europe, however, may feel the same about
some of our institutions. All government officials have regulations
that have to be followed and methods of working codified by tradition
and by the singularities of national experience. Our advice is as
follows:
Be patient
Try to understand and address the government's needs
Be prepared to improvise and to modify plans if, by so doing, you can
achieve your objectives without jeopardizing the viability of the
operation.
Whenever possible use professional advisers to pilot the project
through the bureaucracy
Obey both the letter and the spirit of the law
Try to address the government's priorities explicitly in your plans
Settling disputes
Disagreements between partners can usually be settled with minimal
difficulty; and many joint ventures function with little or no friction
among the owners. This is as it should be. Nevertheless, it is wise to
agree with your partners on a set of procedures for handling disputes,
should it prove impossible to resolve a contentious issue informally,
or through the board of directors.
One way is to establish a Conciliation Committee consisting of
professional advisers who are familiar to the firm. This tends to be
relatively painless and inexpensive provided that all sides agree to
abide by the Committee's decision. Beyond a Conciliation Committee, the
only likely remaining recourse will be to the law, either through an
appeal to an official judicial tribunal if one exists, or by initiating
court proceedings. Either of these procedures would probably be
disastrous to the joint venture; and with rare exceptions, the costs
would greatly outweigh the benefits.
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