Giving Alliances Their Due
By Joshua Kwicinski | Tuesday, April 11, 2017 | Joint Venture Dealmaking
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Setting up a separate joint venture company is often not the best option ♦ What’s behind that other door?
YOUR DEAL TEAM has brought you the outlines of a proposed joint venture. Did they ever consider doing a non-equity alliance instead? Too many deals reflect a rush to judgment on transaction structure, driven by some strange mixture of historical biases, industry norms, and satisfying early impressionistic and half-cooked comments from executives on a structural preference.
Our view: More opportunities would benefit from explicitly considering an alliance alongside a JV.
Below, we provide a short-form summary of the most important reasons to favor a non-equity alliance over a JV (Exhibit 1). Deal teams should be able to articulate their deal logic in a similar fashion. We also argue that the decision between a non-equity alliance and equity JV is more fluid than most people think.
Exhibit 1: When to Favor a Non-Equity Alliance
NO COMPANY TONIGHT
The key factors in choosing between a non-equity contractual alliance and an equity JV are the nature of the contributions, the need for speed, the nature of value creation, control and organizational culture factors, and risk.
If the relevant contributions from the parent companies are hard or impossible to cleanly separate, or don’t need to be integrated to create joint value, then an alliance makes more sense. The need for speed is also important: If the partners need to respond rapidly to market disruption, an alliance can usually be negotiated and launched faster than a JV.
The nature of value creation drives deal choice too. Alliances tend to be better when coordination-style benefits significantly outweigh consolidation synergies, or JV set-up costs exceed potential benefits. And alliances are a simpler hedge against market uncertainty, enabling inexpensive bets on novel technologies and paths to market.
Control and organizational culture also matter a lot. Alliances are preferable when there is no need for shared control or “doing things differently” relative to existing systems, processes, and reporting. Alliances also have the benefit of preserving executive loyalties and reporting relationships, avoiding the career risk of cutting ties to join a new organization. JVs are favored only when there a clear need to break from precedent and establish a new culture with different talent and incentives.
Risk also impacts choice. If the partner raises red flags in diligence, a non-equity alliance can be a cleaner way to limit reputational exposure and minimize the complexity around managing IP.
NEED FOR FLEXIBILITY AND FLUIDITY
Unfortunately, locking in early to a JV or an alliance is all too common. To be fair, regulations occasionally drive a quick answer. Witness sectors in China, India, and other emerging markets, where a JV with a local partner is a de facto requirement for market entry.
But most circumstances allow for a more fluid approach. Some companies have turned partnering into an art form with tools that evaluate the pros and cons of alliances and JVs in parallel, based on value creation, deal feasibility, and post-deal manageability. We have seen many situations where an alliance (or a JV) made more economic sense or was a more viable option, after some disciplined thinking.
Indeed, it’s often less of a choice than believed. Often a creative deal construct blurs the lines — for example, there are numerous “virtual JVs” that are effectively contractual alliances, with a synthetic P&L that helps to align economic incentives. And there are contractual alliances that have more dedicated people, resources, and governance complexity than JVs. These are even harder than JVs to terminate, since the only way out is to “unwind” (absent a standalone entity that could be sold).
“JV or alliance?” is a simple question with a deceptively complex answer. Either structure can work, but it takes a bit of work to get to the right answer.
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