Out-Law Guide 4 min. read
11 Aug 2014, 10:27 am
The market is seeing an increasing desire by parties to find bespoke solutions to their contractual relationships in order to ensure that the goals and objectives of the parties are met whilst managing risk.
This guide sets out how you can plan your collaborative project, the various structures you could adopt and how to assess their strengths and weaknesses to ensure your project of success.
Too often a solution will be proposed that is not the result of proper analysis. Parties can latch on to that solution and sometimes are not prepared to consider changing it, even if analysis shows that the project needs a different approach.
Analysis should be carried out before a solution is chosen, and should identify what the component parts of the project are and how they will feed into the project. Component parts can be income streams; assets, and employees, amongst others.
Analysis should work out what the objectives for the business are and what the risks and 'must haves' are, as well as other factors including:
Objectives – what are your core objectives? Which parameters need to be fixed and which can be flexible? What is the intended nature of the partnership?
Nature of participants – how many partners are there in the collaboration? Does their legal identity or tax treatment demand any particular requirements? What is each party contributing?
Funding and return – what will the funding requirements of the joint venture be? How will these be fulfilled and what returns are each of the party's expecting? What will the return profile look like?
Partners' obligations – who will be responsible for doing what? How will this be contracted? What does the resultant contractual matrix look like? What are the consequences of a failure to perform? What partners have sub-contractors and when will a cross-default be triggered?
Exit – what types of exit, such as deadlock, default, voluntary, are there? What are the consequences of each of these types of exit?
Once the component parts to your project have been identified and scoped you can choose what kind of structure the venture should have. As projects increasingly focus on service delivery and service change and less on goods and buildings there has been innovation in the structures available so that companies no longer have to rely on the traditional corporate joint venture arrangement.
There are many different legal structures, both incorporated and unincorporated, which can be used as vehicles to run a joint venture. Each has different characteristics and advantages, which are outlined in Out-Law's guide to joint venture vehicles.
A contractual joint venture is often used to create the same effect as a corporate joint venture, which is to utilise and establish a board and decisions that are referred to the contracting parties, but without establishing a formal corporate entity. It is a flexible option as it can be tailored to meet the organisations' objectives as there is no overarching regulation or legislation.
This has the advantage that it can be simpler to establish and will not fall under the regulatory requirements that cover a company. In addition a contractual joint venture enables the parties to retain ownership over any relevant assets or property, rather than transferring them into the joint venture vehicle.
The disadvantages of a contractual joint venture are that it can be difficult to monitor when in operation as the funds will flow through one of the parties rather than through a separate legal entity; and it does not enable a party to easily sell or transfer its interest in the same way as a corporate joint venture vehicle may.
A traditional outsourcing agreement is appropriate when the business is appointing another company to carry out defined services for it. For example you might appoint an IT partner to operate systems or run the helpdesk, or appoint a provider to run the HR team.
Outsourcing arrangement are, in essence, long term service agreements. Outsourcing arrangements typically transfer all risk to the service provider and the provider must pay service credits to the customer if it fails to perform in accordance with the contractual matrix. Outsourcings retain a typical customer/supplier relationship.
The customer/supplier relationship can mean there is less of a joint endeavour and parties are typically more incentivised towards their own interests. Outsourcing arrangements have received a lot of bad publicity in the past, particularly in the public sector and, therefore, organisations often steer away from using this terminology.
These are increasing in popularity and are a hybrid between a contractual joint venture and an outsourcing arrangement. They can be simple and effective at aligning parties' interests to ensure that there is a joint endeavour working towards the same goals and objectives.
A partnership agreement typically includes joint working between the customer and provider and, therefore, are often used for service transformation projects. The significant advantage for the customer is that the customer can retain control whilst partnering.
There are numerous methods to incentivise both parties, but typically key performance indicators (KPIs) or service levels can be linked to the organisation's overarching aims and objectives so that there is support for these from both parties.
The real benefit of this approach is the flexibility that it can bring. The documentation can be drafted to ensure that the commercial levers and incentivisation mechanisms enable both parties' objectives to be recognised and achieved in a bespoke and tailored way. However, they do need significant upfront planning and scenario testing to ensure that the proposed mechanism is robust and delivers for both parties.
Once the options have been identified each option can then be effectively evaluated against the component parts identified at stage one in order to assess whether the option enables the business to achieve its aims and objectives.
This can be done informally and can result in a report setting out an analysis together with a strong recommendation, which can be essential from an audit and governance perspective. This options analysis can be used to manage stakeholders and ensure that everyone is comfortable with the proposed solution and approach.
The main benefit of following this as a structured approach is that it ensures that you find the solution most appropriate to achieving your commercial aims. This reduces the risk of project failure and avoids unwanted cost and effort. It can also help with relationships with the counterparty as there is a structured and documented decision-making process.