Weighing a Joint Venture for Your Next Construction Project
August 25, 2014
The lure of creating a joint venture as a way to take on a larger-than-normal project is appealing and can create a way to reach large-project goals much easier. Joint ventures may allow you to expand geographically, may boost your working capital and may even spread the risk a bit. But a joint venture requires a leap of faith and serious thought. Following are some things to consider before taking the joint venture “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.
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). Corporations offer the most liability protection but present some tax disadvantages — including potential double taxation of the joint venture’s profits. And 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 responsibilities for 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. 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 think a joint venture may be the key to winning the work, be sure to consult with your financial advisor at Smith & Howard prior to taking any action. For more information on the ins and outs of joint ventures, contact Debbie Torrance, Marvin Willis, David Lee or another member of our construction niche at 404-874-6244.
If you have any questions and would like to connect with a team member please call 404-874-6244 or contact an advisor below.CONTACT AN ADVISOR
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