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Joint ventures: Look before you leap

Anchin in the NewsOctober 7, 2016Published by Real Estate Weekly
Written by Associate Managing Partner: Marc A. Newman, CPA, CGMA
Joint ventures: Look before you leap

Partnering up with another construction firm can be beneficial, if you understand the inherent risks with a joint venture. Anchin's Marc Newman tells Real Estate Weekly why it's important to look before you leap.

Sometimes, taking the next step to a larger project seems like climbing a mountain.

In such cases, it can be easier to reach that peak by partnering up with another construction company in a joint venture.

But joint ventures themselves are, perhaps conversely, a bit like jumping off of a cliff — a leap of faith, if you will. You never quite know how they’ll turn out until a job is well underway. That doesn’t mean, however, that you shouldn’t look carefully before you take the leap.

Why consider it?

Joint ventures offer many potential benefits. For starters, you can broaden your construction company’s geographic reach. Partnering with businesses in other locations gives you access to markets that would be hard to enter on your own. It will also allow you to leverage your joint venture partners’ expertise and specialty.

Adding to your arsenal another contractor’s relationships with suppliers and other businesses, access to equipment, and knowledge about local market conditions can provide advantages in bidding, labor relations and other areas. A joint venture also instantly boosts working capital, manpower, equipment, specialized expertise or skills, and other resources that can be dedicated to a project — enabling you to bid on larger, more complex projects than you could alone.

In addition, by spreading the risk associated with a job among two or more contractors, each contractor’s risk is reduced. Thereby, it follows that joint ventures often have an easier time qualifying for bonding at reasonable rates. Surety underwriters generally view a well-structured joint venture as presenting less risk of default than does one of the contractors alone.

Which entity type?

There are many ways to structure a joint venture, including partnerships, corporations and limited liability companies (LLCs).

C Corporations offer liability protection but present some tax disadvantages — including potential double taxation of the joint venture’s profits.

S Corporations have the liability shield and avoid the double taxation —but there’s little or no flexibility in allocating profits, losses and liabilities among the joint venture’s owners.

Partnerships provide little liability protection, but they offer “pass-through” tax treatment. In other words, there’s no entity-level tax. Instead, the joint venture’s income, deductions and credits are passed through to the partners and then reported on their personal tax returns. In addition, partnerships offer the greatest flexibility in allocating profits, losses and liabilities among the partners according to their specific contributions to the venture rather than their percentage of ownership interests.

For many joint ventures, an LLC is the ideal structure because it combines corporate liability protection with many of the tax and financial advantages of a partnership.

What to look for?

Before entering into a joint venture, examine your prospective collaborator’s financial strengths, banking arrangements and relationships, quality and safety records, and company culture. Ask for owner references, focusing on jobs that are similar to the project at hand. Also check in with the business’s surety about its bonding capacity.

Review a prospective partner’s history of litigation and legal claims, too. These can provide insights into how the company does business and where it stands financially.

How to spell it out?

To avoid surprises and disputes, create a joint venture agreement. It should spell out the project work each company is performing, responsibilities for the running day-to-day operations; handling accounting, billing and cash transactions; and procuring supplies and materials.

For example, stipulate who will control distributions. For larger joint ventures, there is often an upfront capital call of up to 10% of the contract value. Ensure you and your lender will have the money for the call.

Furthermore, clearly express who’s responsible for obtaining which permits and licenses. And address the change order process and other similar matters. Safety procedures need to be spelled out as well — every company doesn’t handle these identically.

In addition, the agreement should outline insurance, bonding and tax issues as well as indemnification responsibilities between the parties. Even with a well-drafted agreement, disputes can occur. So provide for dispute resolution procedures, such as mediation or arbitration.

Where to begin?

If a big project just appeared on the horizon and you want to climb that mountain, don’t hesitate to consider a joint venture. Just begin the process from a safe distance and in consultation with your financial and legal advisors.

Read the complete article in Real Estate Weekly.

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