Joint Ventures by Startups - A Relatively New Phenomenon

A Joint Venture (JV) is an arrangement that enables two or more parties to form a strategic alliance for procuring synergies and pooling of resources and capabilities to achieve a commercial objective.

A JV allows a business to grow and gain access to markets or expertise beyond its existing capabilities. JVs can be structured in various forms such as equity JV or unincorporated/contractual JVs depending upon the business requirements.

Well-established corporates have been joining hands to form JVs since time immemorial to pool their resources and expertise to develop new products and to increase their operational capabilities. However, in recent times, we have seen a new phenomenon where startups are preferring to enter into JVs with other companies (both established business houses and other startups) with complementary strengths for achieving their commercial goals.

A startup is an entity which has not yet completed 10 years from the date of its incorporation, whose turn-over for any financial year has not exceeded 1 billion and is engaged in innovation, development or improvement of products, processes or services.

Startups use joint venture arrangements to share specialised expertise, such as technical skills or intellectual property, as well as spread the risks and costs of developing a new product or entering into a new market. To quote an example, the National Stock Exchange of India (NSE) entered into a JV with a Bengaluru-based startup Chainflux to launch NSE-Shine, a blockchain platform for gold bullion.

Venture Capital (VC) funding can impact autonomy and decision-making of startups, create pressure for rapid growth and exit (as VC investors have targets to achieve in fixed timelines), dilute ownership and lead to loss of confidentiality. In comparison, a JV is a better suited option for startups for reasons as discussed below.

This article discusses the purpose, advantages and risks associated with JVs between (i) a start-up and a big company; and (ii) two start-ups.

For a startup, a JV with an ideal partner can provide a fast way to expand and diversify. However, such an arrangement can also create certain issues and challenges in terms of the time and effort required to build the right business relationship.  

The main advantages for a start-up to enter into a JV with another start up and big established business houses are enumerated below:

Advantages: 

Access to bigger market, distribution channels and financial resources: A JV between a startup and an established company with diversified and established business may enable startups to enter into/have access to new markets. Also, startups often face the problem of limited resources and access to capital for growth projects, by entering into a JV with a larger company (with more capital resources and extensive distribution channel), a start-up can expand more quickly and have more diversified revenue streams.

Reduced risks and shared costs: In a JV, the risks and costs associated with a business endeavour are shared between the JV partners. Sharing costs and risks with a big business house can be particularly beneficial for a startup with limited financial resources and can enable startups to pursue growth opportunities.

Access to bigger brand name: By forming a JV with a big established business house, a startup can enhance its brand image. Reputation and goodwill of the big partner can have a positive influence on customers, suppliers and other stakeholders of the start-up.

Enhanced credibility: A startup usually takes time to build market credibility and a strong customer base. Forming a JV with a larger, well-established brand enables a start-up to achieve greater market visibility and enhanced credibility.

Greater expertise and knowledge transfer: Big companies have greater industry knowledge, experience and expertise, which can be used by a startup to enhance/expand its knowledge base, capabilities, business acumen and accelerate its growth. Associating with a big business house can expose the small company to new ideas, strategies and perspectives.

Advantages:

Greater flexibility: Startups often possess greater agility and flexibility compared to larger organizations. A partnership between two startups can leverage their agility to respond quickly to market changes, seize emerging opportunities and adapt to evolving customer needs.

Complementary expertise leading to greater innovation: A JV between two startups can enable them to combine their complementary skills and knowledge, which in turn allows them to benefit from the unique strengths and capabilities of the other, filing in the gaps and expanding collective capabilities.

Shared resources: Startups often have limited resources. By forming a JV, startups can pool their resources, leverage their expertise, technologies and market knowledge, to achieve shared goals. This can enable them to access a broader range of resources and capabilities, leading to enhanced competitiveness and accelerated growth.

Creating a niche market: Two small companies can combine their strengths and competencies to create a niche space for themselves or to become more competitive in the marketplace.

Risk-sharing and cost-efficiency: A JV between two startups allows them to share both the risks and costs involved. This in turn leads to lesser/reduced individual financial burdens and minimizes the impact of potential losses. Additionally, by sharing costs, such as those on research and development, marketing and infrastructure expenses, the startups can operate more efficiently and effectively utilize their limited resources.

Staving off larger competitors: By joining forces, startups can combine their customer bases, distribution channels, marketing efforts, research, products and service, which can enable them to expand their market reach and help them penetrate and have access to new markets.

Formation of JV by a startup with a large established entity has its pros, but at the same time, it puts the startup on an unequal footing (less negotiation powers) due to its size, resources and operations. It can also lead to lack of flexibility and power in day-to-day management, uneven division of work and resources due to lack of power to negotiate terms, potential cultural clashes due to different working styles and problem-solving approaches.

On the other hand, forming a JV with another startup may provide equal bargaining power to the two entities, but it may not avail the benefit of a big brand name. A JV between two startups has its own challenges such as limited resources, different objectives/non alignment of goals, potential cultural clashes, challenges in finding the right start-up as a JV partner, shared control and decision making, lack or leadership and support.

Thus, every startup before entering into a JV should assess its readiness for entering into a JV, have a clear objective in mind and understand the possible risks and benefits associated with the kind of JV partnership it intends to enter into. It must find the right JV partner, choose the right type of JV (contractual or equity), understand the control and supervisory rights it wishes to exercise in the JV, determine how the resources will be pooled and how the profits and losses be will shared, and most importantly, take steps towards making the joint venture work.

It is also important to note that smooth functioning of the JV depends on the definitive agreements. Hence, it is critical to draft the agreement in the best possible manner without any room for ambiguity. Convoluted and vague documentation can be fatal to the JV and hamper the interest of the parties.

Lovejeet Singh is a Partner and Megha Pathak is a Senior Associate at Chandhiok & Mahajan.