31 October 2014
Increasingly, companies are relying on joint ventures to achieve their corporate goals. One recent estimate suggests that there are more than 1,000 joint ventures with more than $1 billion in annual revenues or invested capital, and that the eight largest publicly listed oil and gas companies and six metals and mining majors have more than $500 billion in assets in major joint ventures. Joint ventures allow companies to combine their assets and skills to deliver new products or address new markets. As such, they often help drive corporate performance.
But joint ventures often are fragile entities with a typical lifespan of only five years. Disputes often arise among venture partners concerning corporate governance, strategy, personnel decisions, IP rights and countless other topics. For most ventures, the ability to manage those inevitable disputes is critical to the success of a business that may hold substantial value to all venture partners. This article addresses three of the topics that most frequently lead to disputes and litigation, and it suggests how partners can anticipate and potentially avoid such disputes.
1. Is it a Joint Venture?
One issue that often leads to litigation is whether a joint venture or partnership was formed in the first place. Courts permit a contract for partnership to be implied without any formal agreement. To determine whether a joint venture has been formed, courts consider whether each party has agreed to contribute money, assets, labor or skill with the understanding that profits will be shared between them. To reduce the risk that a court will find an arrangement to be a joint venture, sophisticated parties often specify that the parties do not intend to form a partnership, or that the parties do not intend to be bound until a more formal agreement has been created.
But consider the recent case of Energy Transfer Partners LP v. Enterprise Products Partners LP. In that case, Energy Transfer Partners (ETP) alleged that it had formed a joint venture with Enterprise Products to construct a $1.2 billion oil pipeline. The parties entered into a term sheet, which specifically stated that no binding or enforceable obligations existed between the parties unless and until they received board approvals and definitive agreements had been executed.
Those conditions were never met. Notwithstanding this language, the parties publicly announced their venture in a press release, set up an engineering team to develop building plans, solicited preliminary bids on the project, marketed the project to customers and signed up one customer for the pipeline. After four months, concerned about a lack of customer interest in the pipeline, and finding an opportunity with another entity, Enterprise informed ETP that it was withdrawing from the project.
ETP sued Enterprise for breach of fiduciary duty, claiming that the parties had formed a joint venture. It argued that even though the terms sheets were nonbinding, that did not preclude the parties from forming an implied joint venture. ETP further argued that under Texas law the elements for a partnership existed, pointing in particular to the parties’ repeated marketing statements that the parties had formed a joint venture. At trial, ETP ultimately won a verdict of $319 million in damages and $150 million in disgorgement.
As this case makes clear, even language stating that the parties intend not to be bound may be insufficient to avoid the potential of having a court find that an implied joint venture exists. Parties hoping to avoid a similar fate should take a few key steps:
- Agreements between the parties should not only disclaim an intent to be bound, but also disclaim an intent to form a partnership or joint venture.
- When permissible, parties also should disclaim any relationship of trust or fiduciary obligation between the parties.
- Parties should be careful not to refer to any joint project with another party as a “joint venture” or partnership, particularly in marketing materials to customers.
2. Governance Issues and Fiduciary Obligations
A second frequent cause of disputes between venture partners is when the partners’ goals start to diverge, leading to disputes over governance of the venture or about the obligations each party owes to the venture. Although the starting point for such disputes is the venture agreements themselves, the parties frequently will rely on fiduciary obligations “in order to fill the gaps in the contractual relationship.” Unisuper Ltd. v. News Corp., (Del.Ch. 2005). These fiduciary duties include the duties of loyalty and good faith.
One example in which such a dispute arose from diverging corporate interests is a recent publicly reported dispute between Swatch Group Ltd. and Tiffany & Co. The companies announced a partnership named Tiffany Watch Co. in 2007 to jointly develop and sell Tiffany-branded watches for around $3,500 each. The alliance stalled in 2011. Around that time, a Tiffany executive purportedly told Swatch that watches were no longer a priority for his company. Swatch complained that Tiffany had failed to act quickly in making decisions, and failed even to display the watches at Tiffany’s flagship Fifth Avenue store. In its arbitration proceeding, Swatch alleged among other things that Tiffany failed to proceed in good faith in the joint venture. Swatch sought recovery of the lost profits it expected to earn, and in December 2013, the arbitral panel awarded the company $449 million.
Among the lessons to be learned from this dispute—in addition to the need for damage limitation provisions in joint venture agreements—is that the fiduciary obligations of partners extend beyond the literal terms of the venture agreement and require partners to work together in good faith. In the event that the parties’ corporate goals deviate from the venture’s goals, the parties should engage in discussions about ways to reform the venture, rather than rely on self-help that may be portrayed as breaching a duty of loyalty and good faith.
3. Scope of Venture and Noncompete Obligations
A key to the success of any venture is carefully defining the scope and the parallel noncompete obligations. Even if the parties’ joint venture agreement does not include a noncompete obligation, absent an express agreement permitting competition, courts will typically infer, based on the fiduciary duty of loyalty, that the parties intended to restrict to some extent their respective competition with the joint venture.
One instructive case is In re Mobilactive Media LLC, (Del. Ch. Ct. Jan. 25, 2013). In that case, Terry Bienstock had formed a joint venture with Silverback Media for the purpose of enabling and enhancing video programming and advertising content involving multimedia platforms, including broadcast, cable and satellite television, mobile devices, and websites within North America. In the joint venture agreement, the members agreed that the joint venture would be the only means through which any partner engaged in that described business, and that any future opportunities for new or expanded business within that scope would be presented to the joint venture. The venture met with limited success, and eventually Silverback acquired a number of companies whose businesses fell within the scope of the joint venture. Bienstock sued Silverback for usurping the corporate opportunities of the venture and was awarded more than $3 million in lost profits.
The Mobilactive case highlights the critical importance of limiting the scope of the joint venture and any noncompete obligations. Even if one party insists on a broad scope for the venture (as Bienstock had done in the Mobilactive case), the other party should insist on temporal or geographic limitations. The parties also could set financial hurdles that the venture must exceed within a certain period of time. And the parties should include termination or buy-out provisions that will avoid locking the parties into a very broad, perpetual joint venture.
In short, as companies increasingly rely on joint ventures to generate business opportunities and corporate growth, the value created by those ventures leads to increasing disputes over the specific contours of the parties’ venture. Litigation arising out of such ventures will put heightened focus on the terms specified in the parties’ venture agreements. Venture parties need to be particularly careful about spelling out key issues, such as whether they intend to create a joint venture in the first place, the scope of that venture and the obligations of the venture partners. Recent cases highlight the substantial stakes at risk when ambiguities arise with respect to such key terms and provide guidance on such provisions might be strengthened.
Reginald Goeke is a partner in Mayer Brown’s Washington, D.C., office, where he represents clients in complex commercial litigations, including securities class actions, ERISA class actions, complex contract and partnership disputes, and intellectual property actions. The views expressed in this article are those of the author (who was not involved in the cases described), and not of Mayer Brown or any of its clients.
Reprinted with permission from the 31 October 2014 edition of Corporate Counsel © 2014 ALM Properties, Inc. All rights reserved. Further duplication without permission is prohibited.