Why Use A Joint Venture?

Most commonly, joint venture partners are sought to provide missing cash so that a property project can happen. However, in a property context there can be many situations where part of what is needed to bring a project to fruition is missing and the easiest approach to bridge the gap is to find a joint venture partner.

In this broader context a joint venture partner may provide any or all of these items:

Capital
Contacts
The deal itself
Expertise
Time

Anything that you have in short supply and that you need to make a deal work can be provided by a joint venture partner. Clearly, there is a 'quid pro quo' and it's as important for you to know what you will contribute to the partnership as it is to be clear about what you need from someone else. I'm often amazed by talking to would be property investors who want a JV partner to provide cash, but actually have little to offer themselves!

In my experience there is a presumption that most JVs are between equal partners, but in fact JVs where one partner is dominant can run more smoothly, are easier to work out and may have more chance of success. Why? Simply because it's clear from the outset who will make the decisions and the junior partner accepts that they are not involved from day to day.

What returns should we pay them?

If we take a common type of partnership where one party provides the cash, and the other provides the deal, the expertise and the time, splitting the profits 50:50 is a realistic approach and represents a simple but fair approach to many deals.

However, for most partnerships it is a far more complex calculation. The starting point is to weigh up what each partner contributes to the deal and to find a way to reflect this in the arrangements for the sharing of profits and costs.

Since many JVs often happen with family support, there is a 'non-financial' aspect which can completely alter the dynamics. If your parents are lending you money, they may only want to receive the same amount as they have lost in their bank deposit account. This is a very different story from a commercial JV where a business partner is looking for a signficant return.

Where one partner is dominant, it is common to give the junior a fixed, preferential return. This could be a % on their capital, or the first £xxx of any profit. They are trading less reward for greater certainty.

It's not possible to be prescriptive as every deal is different and every set of JV partners are different. At the end of the day either you will reach agreement or you will not. In my experience, investors looking for JV partners with money are often too greedy and do not understand the risk that someone with money is taking when they entrust a considerable sum to your care.

Where to find JV partners

I think there are three main places to find JV partners:

The easiest JV partners will be found amongst friends and family. These people already know you, and hopefully trust you. They will usually be more flexible about the arrangements and more willing to 'go with the flow' if the anticipated returns vary or the timescale changes.

But precisely because these are friends and family they stand to be hurt the most if something goes wrong and you need to consider that carefully.

The second group is people you know - like business colleagues or social friends, or can be introduced to through accountants, financial advisors, bank managers and so on. These people are either already known to you or come with a recommendation.

The final group is people you don't have any personal connection with, but may have something in common. I hear of many joint ventures taking place through property networking clubs. Naturally this is a gathering place for people interested in property investment, although my experience is that there are far more investors looking for money than the other way around.

Typical projects

If you are a 'buy to let' investor intending to build a portfolio and you need capital there is an innate problem in finding a JV partner. The issue is about time. Most BTL investments are purchased for long term reward - say 10 years plus. This is even truer in a difficult market where capital growth in coming years is suspect.

Most JV partners want projects that are reasonably short term - say under a year. This is because JVs with clear in and out goals and a defined timescale are more easy to measure, more easy to control and give clear signals if they are going off beam.

The longer the project the more potential problems including the issues of the JV partners wanting different things. Suppose one of the JV partners falls on hard times, five years down the road. They want to sell the property. The other partner wants to keep the property. Immediate conflict which is difficult to resolve.

In our experience most JV's that work successfully are limited to projects like property development or trading where there is a short term profit to be made.

What can go wrong and how to protect yourself

It is very easy for JVs to go wrong. The project itself may go off course, perhaps because the profit turns out to be completely different or even non-existent. Or the partners may fall out and disagree about how things should be done.

Here's an example of a JV going wrong, an example shared with me by one of my closest friends. He was approached by a friend of his that was refurbishing houses but was short of cash. My friend agreed to put up the cash to buy and refurbish for a 50:50 split of the profits. The builder agreed to contribute their labour free and to supervise the building process. In order to protect his capital my friend insisted (very sensibly in my view) that they would retain a veto on any design elements that they considered excessive, and they retained the right to solely accept or turn down an offer for the property from a purchaser.

Two things went wrong. The first was that they disagreed over the installation of a swimming pool. The builder felt that it would add considerable to the value of a very upmarket house. My friend believed that it was an unnecessary expense that would not necessarily be recouped in the selling price. The pool did not go ahead.

The second problem was more fundamental. The market started to crash (we all know that one!), and prices started sliding.

My friend immediately put the house on the market, even though it was not completely finished, and found just one buyer but at £60,000 below the asking price. This net price was enough for him to get his money back, but wiped out all the profit. The builder didn't want to take this price because he was left with six months work and no income. My friend was concerned to protect his capital and insisted on the sale going through. As we know the market continued to crash and in hindsight my friend knows he was lucky to get out and recover all his capital!

Suffice it to say that they are now no longer friends. Thankfully for my friend they had entered into a legally binding JV contract which enabled him to make the tough decisions even though they were not agreed between partners.

There are quite a few morals to this story. Here's the learning I'd like to share with you:

Make sure you have a detailed JV contact which answers all questions of responsibility, decision making, what happens if you disagree.
Consider what can go wrong as well as what can go right and agree contingency plans.
The two most common problems are that the project costs more and takes longer. Work out what you will do in these circumstances.
Agree a process for mediation if things cannot be agreed.
Consider extra carefully the implications of a problem with friends or family. This is probably the easiest JV to set up, but can have personally disastrous consequences if it goes wrong.

When should I use one

Here's my checklist:

Are you sure that you cannot complete the project yourself?
Is it impossible to find the resource you need for a fixed price rather than on a JV basis?
Is the project less than a year?
Are you bringing a large part of the value to the project?
Have you identified specifically what you need a JV partner to provide?

If you have answered 'yes' to all five questions then a JV could be the way forward.

To sum up. JVs are not the universal panacea and may cause real problems for the partners. However, in certain situations they can be the only way forward to enable a project to happen. Go into a JV with your eyes open, make sure you complete a detailed legal agreement and pick a project with a defined end date.

Good luck.

Live with Abundance

Rod Thomas sig