What is a Joint Venture (JV)?
A joint venture (JV) is a commercial enterprise in which two or more organizations combine their resources to gain a tactical and strategic edge in the market. Companies often enter into a joint venture to pursue specific projects. The JV may be a new project with similar products or services or it may involve creating an entirely new firm with different core business activities.
Companies initiate a JV through a contractual agreement between all concerned parties. The profit and loss from the venture are shared by the participants.
Top 10 Advantages of Joint Ventures
A joint venture offers several advantages to its participants. It can help a business grow faster, increase productivity, and generate additional profits.
1. Shared investment
Each party in the venture contributes a certain amount of initial capital to the project, depending upon the terms of the partnership arrangement, thus alleviating some of the financial burden placed on each company.
2. Shared expenses
Each party shares a common pool of resources, which can bring down costs on an overall basis.
3. Technical expertise and know-how
Each party to the business often brings specialized expertise and knowledge, which helps make the joint venture strong enough to move aggressively in a specified direction.
4. New market penetration
A joint venture may enable companies to enter a new market very quickly, as all relevant regulations and logistics are taken care of by the local player. A common joint venture arrangement is one between a company headquartered in country “A” and a company headquartered in country “B” that wants to obtain access to the marketplace in country “A”. With the formation of the joint venture, the companies are able to expand their product portfolio and market size, and the country B company obtains easy access to the marketplace in country A.
5. New revenue streams
Small businesses often face having limited resources and access to capital for growth projects. By entering into a joint venture with a larger company with more financial resources, the small business can expand more quickly. The larger company’s extensive distribution channels may also provide the smaller firm with larger and/or more diversified revenue streams.
6. Intellectual property gains
Advanced technology is often difficult for businesses to create in-house. Therefore, companies often enter into joint ventures with technology-rich firms to gain access to such assets without having to spend the time and money to develop the assets for themselves in-house. A large firm with good access to financing may contribute their working capital strength to a joint venture with a firm that has only limited financing capabilities but that can provide key technology for the development of products or services.
7. Synergy benefits
Joint ventures can offer the same type of synergy benefits that companies often look for in mergers and acquisitions – either financial synergy which lowers the cost of capital, or operational synergy where two firms working together increases operational efficiency.
8. Enhanced credibility
It typically takes some significant period of time for a young business to build market credibility and a strong customer base. For such companies, forming a joint venture with a larger, well-known brand can help them achieve enhanced marketplace visibility and credibility more quickly.
9. Barriers to competition
One of the reasons for forming a joint venture is also to avoid competition and pricing pressure. Through collaboration with other companies, businesses can sometimes effectively erect barriers for competitors that make it difficult for them to penetrate the marketplace.
10. Improved economies of scale
A bigger company always enjoy the economies of scale, which again is enjoyed by all the parties in the JV. This refers back to the notion of operational synergy.
Risks of Joint Ventures
There are several benefits to forming a joint venture, as detailed above, however, joint ventures can also create challenges. Forming a venture with another business can be complex in terms of the time and effort required to build the right business relationship. A new JV can cause the following problems:
- The new set of partners may have different objectives for the joint venture, and pursuing separate objectives may threaten the success of the venture. For this reason, it is important when forming a joint venture arrangement that the objectives of the venture be clearly defined and communicated to everyone involved at the outset.
- Cultural mismatches and different management styles between the two firms engaged in the JV can lead to poor integration and cooperation, again threatening the success of the enterprise. It’s best to pursue JV opportunities with companies that have a corporate culture similar to that of your own company.
- Imbalance in the levels of expertise, investment, or assets brought into the venture by the different parties may lead to problems between the two parties. One party or the other may begin to feel that it is contributing the lion’s share of resources to the project and resent a 50/50 distribution of profits. This can be avoided by frank discussions and clear communication during the formation of the joint venture, so that each party clearly understands – and readily accepts – its role in the JV.
When Should a Joint Venture Dissolve
Joint ventures are usually formed with certain defined objectives and not necessarily intended to function as a long-term partnership. Below are some of the common reasons for dissolving a JV:
- The time period that was initially established for the joint venture to operate has been completed, and the parties agree that there is no further benefit to be gained from continuing the venture.
- The individual objectives of each party are no longer aligned with the common objectives of the JV partnership.
- Legal or financial issues have arisen with one or both of the parties that make continuing the JV no longer viable.
- No significant revenue growth has resulted from the JV, and it is thought unlikely that worthwhile growth will result from continuing the arrangement. In other words, the parties discover that the benefits they had hoped to reap from the JV have not materialized and are not likely to even if the JV were continued.
- Changes in market conditions, such as new economic policies or a shift in political conditions, lead the JV partners to conclude that the joint venture is no longer likely to be profitable for either party.
We hope you’ve enjoyed reading the CFI guide to joint ventures. CFI is a global provider of financial modeling courses and financial analyst certification programs. To continue learning and advancing your career, these additional CFI resources will be helpful: