Chapter 4.5: Joint Venture Contract Negotiations and Approvals


Jonathan Reuvid

From MOU to joint venture agreement or draft contract

Initial discussions for a joint venture (JV) with a selected Chinese partner, if fruitful, will result in a Memorandum of Understanding (MOU) signed jointly. The MOU should contain a clear statement of intent to develop together a feasibility study for a joint venture (JV) and to negotiate the terms of the joint venture to the mutual benefit of the parties. The MOU must be filed by the Chinese party together with a 'pre-feasibility study' (in reality a checklist of the major parameters for the proposed JV) with the authorities to which it reports . More detailed negotiations cannot proceed until the reporting authorities have given a preliminary indication of approval to the project.

Formal MOUs in China, in a joint venture context, are not legally binding but are considered to be a commitment to continue discussions and to carry out a serious feasibility study. Therefore, it is considered to be a breach of good faith for a foreign company to enter into negotiations for the same project with another Chinese enterprise once a formal MOU has been signed, unless it is first terminated by the mutual consent of the two original parties. It follows that the initial choice of preferred partner is crucial. Signing an MOU in haste with an ill- chosen potential partner imposes a major impediment to further progress.

For this reason , it is important to carry out as much as possible of the due diligence discussed in Chapter 4.4 before signing any MOU. If in doubt, the foreign company should confine itself to a simple minute which records that discussions have taken place which will be reported to the boards of the two companies which will decide mutually within an agreed period of time whether or not to continue studying the project.

The pre-feasibility study

The pre-feasibility study usually takes the form of a standard checklist of the main parameters for the joint venture, some of which may be mentioned in the MOU but most of which are an expression of the initial 'ballpark' numbers which the parties may have discussed together. The checklist is not a joint declaration of the Chinese and foreign parties, but foreign partner input will certainly be requested . Key elements in the pre- feasibility checklist include:

  • scope of business;

  • total investment in the JV in US dollars;

  • amount and shares of registered capital to be subscribed by the partners in US dollars;

  • form of contribution for registered capital by each partner: cash, equipment, patented designs, technology, land use and buildings ( proportions not usually quantified at this stage);

  • nature of technology; must be to international standard, preferably advanced;

  • planned production capacity (unit/volume output rather than value);

  • proportion of output to be sold in export markets (normally not less than 20 per cent);

  • surface area of facility and of covered factory space (existing or new building);

  • in what proportions equipment is to be imported or sourced within China;

  • workforce to be employed (provisional numbers);

  • foreign partner's commitment to training and continuing technical support.

There is a 'chicken and egg' element in specifying these parameters at such an early stage, since most of this detail cannot be quantified with certainty in advance of a full-scale feasibility study. Indeed, it is advisable that the foreign party distances itself, as far as possible, from the pre-feasibility process so that responsibility for any major changes to the parameters which have to be identified to the authorities is limited.

The feasibility study

Assuming that the authorities' response to the pre- feasibility study and MOU is positive, the parties may now move forward jointly to a full-scale project feasibility study. It is quite possible that the authorities may reject one or more of the parameters in the pre-feasibility checklist “ perhaps the form in which contributions to registered capital may be made, or a demand for a higher proportion of export sales. By this time, the relationship between the prospective partners should have advanced to the point where such obstacles are addressed together in the spirit of trying to find a solution which will satisfy the authorities and be acceptable to both sides.

The complexity of the feasibility study will be determined by the nature of the project, its technical content, procurement issues in respect of equipment, raw material and locally sourced components , quality assurance standards and sales potential. It is recommended that all phases of the study be carried out by a joint team and that the data provided by either side should have maximum transparency. In the course of the study, the Chinese members of the team will certainly want to visit the foreign partner's facilities and to inspect technology, equipment and manufacturing processes.

The amount of detail which the Chinese partner will require to complete the feasibility study for its purposes and the scope of the study will be broadly similar to the foreign partner's requirements. The Chinese side will focus particularly on the detailed specification and performance of any equipment and tooling to be imported, and if used equipment or tooling is involved will need to satisfy itself fully as to condition and market value.

Market studies are a necessary part of the overall feasibility study to satisfy both partners that the products which the JV is targeted to manufacture are saleable in both export and domestic markets in the proportions and at the prices planned. In the early days of JVs in China, Chinese partners were often content to rely on a commitment by the foreign partner to take full responsibility for exports with the amounts to be exported in the early years specified in the JV contract. Chinese partners increasingly demand a fully researched market study which demonstrates in which overseas markets and in what proportions the JV's products can be sold at the projected export sales price.

Conversely, foreign partners, seduced by the mirage of a billion-plus Chinese consumers, used to be content to rely upon government institutes' published statistics or projections and the Chinese partner's assurances of marketability . Increasingly today prospective foreign JV partners demand studies of key regional markets in China by professional research organisations, such as CMTD, or western market research firms operating in China with appropriate fieldwork capabilities.

The business plan

The feasibility study should culminate in the preparation of a business plan by the two parties jointly. This is not a formal requirement by the authorities to whom the feasibility study must be submitted with the JV agreement or draft JV contract, although the Chinese partner needs to include an income and expenditure plan showing profit projections for the first three to five years of the JV's life.

However, from the foreign partner's perspective, the addition to the feasibility study of a business plan (in the western sense) and a draft budget for the period from company registration through start-up is strongly recommended. In particular, the business plan should include a cash-flow statement, as well as a profit and loss statement, and operating statements including analyses of fixed and variable expense and a manpower plan which specifies maximum staffing at each stage of development in the JV. In this way, the business plan becomes a financial blueprint, subject to review and amendment by the board of the JV after the company is formed , but a clear reference point for management discussion.

Until the early 1990s the concept of medium- term cashflow planning (as opposed to income and expenditure projections) was foreign to most Chinese company managers, brought up in the traditions of command economy accounting. However, exposure to foreign investors and international accounting standards and procedures has effected considerable changes in Chinese corporate best practice, and the merits of 'market economy' business planning in the early stages of a joint venture are now well understood .




Doing Business with China
Doing Business with China
ISBN: 1905050089
EAN: 2147483647
Year: 2003
Pages: 648
Authors: Lord Brittan

flylib.com © 2008-2017.
If you may any questions please contact us: flylib@qtcs.net