The hidden logic for holistically structuring exit terms in joint ventures.
December 2021 — How can companies improve ESG performance in ventures in which they lack control? In our experience, companies have three “big moments” to materially impact ESG risks in non-controlled ventures (Exhibit 1).For consistency, we use the phrase “non-controlled” joint venture across this article. Other terms commonly used to describe this structure include non-operated joint ventures, non-managed joint … Continue reading First is partner selection and due diligence. This isn’t just about ensuring that your joint venture partner is not linked to a military dictatorship – though that’s obviously important. It’s about understanding the actual and perceived ESG performance and culture of your potential partner. This means going beyond completing due diligence checklists to actually interviewing people on the ground – from current and former employees to local communities and other stakeholders – to test answers and build a fuller picture of how they believe the potential counterparty actually manages safety, human rights, business ethics, inclusiveness, or environmental stewardship.
Negotiating contractual terms is a second big moment, assuming you are entering into a new JV or restructuring an existing one. Opportunities to secure strong legal rights and protections can be found across the joint venture and related agreements – in provisions related to voting and control, management appointment rights and delegations, performance standards, reporting and audit, transfer and exit, and representations and warranties.
Once a deal closes, a minority or non-controlling partner does not lose all its leverage. The third big moment is governance, through which a company can use its position on the board and committees, access to management, and role in audits to secure added transparency and shape outcomes.
One tool for non-controlling partners – both in deal negotiations and post-close governance – is to provide services to the venture. If a non-controlling partner in a new or existing non-controlled joint venture is particularly worried about ESG risks – whether bribery and corruption, human rights, community engagement, or environmental risks – it might consider offering to perform specific functions or activities or providing other direct support to the JV. Such services might be provided on a fee or no-fee, short- or long-term, or exclusive or non-exclusive basis. Owner-provided services are often paired with the provision of secondees, technology or other licenses, and other forms of support. Our analysis shows that owner-provided services appear in more than 85% of JVs. In a recent report, The Codependency of Joint Ventures: Designing and Managing Owner-Provided Services in JVs, we benchmarked the legal agreements of 39 joint ventures to understand how companies structure such owner-provided services and how well they comport to best practice.
Non-controlling partners might provide entire functions – such as compliance, procurement, finance, major capital project development, or marketing – to the JV under a master service agreement. Or they might provide more targeted services to support higher-risk activities or areas with capability gaps, such as environmental remediation, sanctions compliance, or security services. One of our clients, a non-controlling partner in a 60:40 African mining JV, provides supplier due diligence services to the venture as a way to manage risks from potential human rights, bribery and corruption, and sanctions violations. In a 50:50 chemical JV in Saudi Arabia, the two partners jointly provide the internal audit function to the venture, ensuring they both have direct understanding of what is happening in the venture.
BEWARE OF THE DEEMED OPERATOR
But the provision of services and other support create a conundrum for non-controlling partners. Paradoxically, while such tools reduce the likelihood of bad things happening, they may simultaneously increase a company’s financial, legal, or reputational exposure. When non-controlling partners provide services to – or are otherwise highly interventionist in – a joint venture, they run the risk of being exposed to direct and disproportionate liability.
In fact, some high-profile legal cases are often cited as reasons for non-controlling partners to keep their distance from a JV and avoid “overreach.” One such case involved TotalEnergies, the French energy giant, in a joint venture with Chevron. TotalEnergies was deemed to be the operator and held criminally liable for £700 million in damages resulting from a major explosion at Hertfordshire Oil Storage Ltd, an oil storage joint venture near Buncefield, UK. Despite the JV being structured as an independent operating company co-owned by TotalEnergies and Chevron, the courts found that TotalEnergies effectively acted as the operator because the venture ran on TotalEnergies’ systems, was staffed with TotalEnergies secondees, received services from TotalEnergies, and on-site staff were directed by TotalEnergies.
There are other high-profile instances of “overreach” by the non-controlling partner. For instance, Eni, an international oil and gas company based in Italy, was charged under the accounting provisions of the Foreign Corrupt Practices Act (FCPA) for alleged bribery that occurred by Saipem, an oilfield services business in which Eni held a 43% ownership interest. While it is not clear whether Eni provided services to Saipem, Eni required Saipem to adopt Eni’s internal controls and follow with its directives on transparency, traceability, and anti-bribery compliance. Eni was found to have failed to exercise “good faith” and “reasonable influence” as a minority owner as required under the FCPA and entered into a $25 million settlement with the SEC.
The TotalEnergies and Eni cases should give partners pause before providing services to a joint venture, although the cases entailed broad, multifaceted involvement by a minority or non-controlling partner. Eni financially consolidated Saipem, and the CFO of Saipem was promoted to CFO of Eni, where he continued to oversee bribery payments in the venture. At Buncefield, TotalEnergies owned 60% of the JV and all of the staff operating the venture were TotalEnergies secondees. This is far from the typical or targeted involvement of a non-controlling partner. In our experience, service agreements can be structured and governed in a way to reduce both deemed operator and ESG risks.
So what’s your move?
For advice on how to structure and govern one of your joint ventures to manage ESG risks, or support the diligence of potential counterparties, please contact Ankura’s Joint Venture and Partnership Practice.
|↑1||For consistency, we use the phrase “non-controlled” joint venture across this article. Other terms commonly used to describe this structure include non-operated joint ventures, non-managed joint ventures, partner-operated joint ventures, and operated-by-others (OBO) assets. These non-controlled ventures may be incorporated JVs with separate legal entities or unincorporated JVs in which no new legal entity is established. In some cases, these ventures may be operated by one partner; in others the JV itself may be the operator.|