Download Shared Growth/Shared Control Strategies: JVs, Partnerships

Joint Ventures,
Partnerships, Strategic
Alliances, and Licensing
Humility is not thinking less of yourself.
It is thinking less about yourself.
—Rick Warren
Course Layout: M&A & Other
Restructuring Activities
Part I: M&A
Environment
Part II: M&A
Process
Part III: M&A
Valuation &
Modeling
Part IV: Deal
Structuring &
Financing
Part V:
Alternative
Strategies
Motivations for
M&A
Business &
Acquisition
Plans
Public Company
Valuation
Payment &
Legal
Considerations
Business
Alliances
Regulatory
Considerations
Search through
Closing
Activities
Private
Company
Valuation
Accounting &
Tax
Considerations
Divestitures,
Spin-Offs &
Carve-Outs
Takeover Tactics
and Defenses
M&A Integration
Financial
Modeling
Techniques
Financing
Strategies
Bankruptcy &
Liquidation
Cross-Border
Transactions
Learning Objectives
• Primary learning objective: To provide students with a
knowledge of how to plan, structure, and manage business
alliances.
• Secondary learning objectives: To provide students with
knowledge of
– How business alliances represent alternative business
implementation strategies to M&As;
– Motivations for business alliances;
– Factors critical to the success of business alliances;
– Common valuation methodologies
– Alternative legal forms of business alliances
– Key business alliance deal structuring issues and
challenges; and
– Financial performance of business alliances
Business Alliances as Alternatives to M&As
• Business alliances (as are M&As) are vehicles for
implementing business strategies. They are not
themselves business strategies.
• Business alliances may be informal agreements or
highly complex legal structures
• Alternative forms of business alliances (including
legal and informal relationships)
– Joint ventures
– Strategic alliances
– Equity partnerships
– Licensing
– Franchising
– Network alliances
Motivations for Forming Alliances
•
•
•
•
•
•
Risk sharing
– Sharing proprietary knowledge (e.g., TiVo, Sematech, and Wintel)
– Management skills and resources (e.g., Dow Chemical/Cordis)
Gaining access to new markets
– Using another firm’s distribution channels (e.g., AARP and Hartford
Insurance)
Globalization
– Gaining access to foreign markets where laws prohibit 100%
foreign ownership or where cultural differences are substantial
(e.g., China)
Cost reduction
– Purchaser/supplier relationships (e.g., GM, Ford, and Daimler
Chrysler online purchasing consortium)
– Joint Manufacturing (e.g., major city newspapers)
Prelude to acquisition or exit (e.g., TRW/Redi, Bridgestone/Firestone)
Favorable regulatory treatment (e.g., collaborative research shared with
others)
Business Alliance Critical Success Factors
• Measureable synergy (e.g., economies of
scale/scope; access to new products, distribution
channels, and proprietary know-how)
• Risk reduction (e.g., Verizon and Vodafone share
network costs to form Verizon Wireless)
• Cooperation (e.g, MCIWorldcom and Telefonica de
Espana)
– Greatest when partners share similar cultures
• Clarity of purpose, roles, and responsibilities
• Win-win situation (e.g., TRW REDI, Merck and J&J)
• Compatible time frames for partners
• Support from the top
• Similar financial expectations
Discussion Questions
1. Discuss the advantages and disadvantages of a
partnering arrangement compared to a merger or
acquisition? Be specific.
2. Under what circumstances might it make sense to enter
into a business alliance with a potential merger target
before actually proposing a merger?
3. What do you believe are some of the major reasons
business alliances often fail to satisfy expectations?
4. Do you believe that the likelihood of a firm achieving its
business plan objectives is greater through a business
alliance than through a merger, acquisition, or a solo
venture? Explain your answer.
Common Methodology for
Valuing Business Alliances
Step 1: Parties to joint venture agree on a measure
of value (e.g., EBITDA)
Step 2: Determine contribution of each party to the
measure of value
Step 3: Estimate total value of JV by applying the
prevailing industry multiple to the measure
of value
Step 4: Determine ownership distribution based on
each partner’s contribution to the JV’s total
asset value
Creating NBC Universal in 2002\3
Vivendi
General Electric
$28 Billion
(2/3 of $42
Billion)
$14 Billion
(1/3 of $42
Billion)
Step 1: EBITDA used as the measure of valuing assets contributed by GE and Vivendi
Universal Entertainment (VUE) to the joint venture which together generated $3 billion EBITDA
Step 2: GE contributed $2 billion of EBITDA and VUE $1 billion
Step 3: Value of combined GE and VUE assets = $42 billion [$3 billion x 14
(Comparable entertainment company multiple)]
Step 4: GE owns 2/3 and VUE 1/3 of NBC Universal based on the dollar value of their
contributed assets as a percent of total JV assets
Comcast and General Electric Joint Venture
• Comcast and General Electric (GE)1 announced on
12/2/09 that they had agreed to form a JV that will be
51% owned by Comcast, with the remainder owned by
GE.
• GE was to contribute NBC Universal (NBCU) valued at
$30 billion and Comcast was to contribute TV networks
valued at $7.25 billion.
• Comcast also was to pay GE $6.5 billion in cash. In
addition, NBCU was to borrow $9.1 billion and distribute
the cash to GE.
• GE has an option to sell one-half of its interest to
Comcast at the end of 3 years and the remainder at the
end of 7 years.
1Reportedly,
Comcast was the only bidder for NBCU.
Purchase Price Determination and Resulting Control
Premium and Minority Discount
NBC Universal Joint Venture (NBCU) Valuation1
Comcast Purchase Price for 51% of NBC Universal JV
Cash from Comcast paid to GE
Cash proceeds paid to GE from NBCU borrowings2
Contributed assets (Comcast network)
Total
GE Purchase Price for 49% of NBC Universal JV
Contributed assets (NBC Universal)
Cash from Comcast Paid to GE
Cash proceeds paid to GE from NBCU borrowings
Total
Implied Control / Purchase Price Premium (%)3
Implied Minority/Liquidity Discount (%)4
1Equals
$37.25 billion
$6.50
9.10
7.25
$22.85 billion
$30.00
(6.50)
(9.10)
$14.40 billion
20.3
(21.1)
the sum of NBCU ($30 billion) plus the fair market value of contributed Comcast properties ($7.25 billion)
and assumes no incremental value due to synergy. These values were agreed to during negotiation.
2The $9.1 billion borrowed by NBCU and paid to GE will be carried on the consolidated books of Comcast, since it
has the controlling interest in the JV. In theory, it reduces Comcast’s borrowing capacity by that amount and should
be viewed as a portion of the purchase price. In practice, it may reduce borrowing capacity by less if lenders view
the JV cash flow as sufficient to satisfy debt service requirements.
3The control premium represents the excess of the purchase price paid over the book value of the net acquired
assets and is calculated as follows: [$22.85 / (.51 x $37.25] -1.
4The minority/liquidity discount represents the excess of the fair market value of the net acquired assets over the
purchase price and is calculated as follows: [$14.40/(.49 x $37.25)] -1.
Discussion Questions
1.
2.
3.
Suppose two firms, each of which was generating
operating losses, wanted to create a joint venture. The
potential partners believed that significant operating
synergies could be created by combining the two
businesses resulting in a marked improvement in
operating performance. How should the ownership
distribution of the JV be determined?
Discuss the advantages and disadvantages of your
answer to question one.
Should the majority owner always be the one
managing the daily operations of the business? Why?
Why not?
Legal Form Follows Business Strategy
• Business strategy provides direction
• If management determines a business alliance is best
way to implement strategy, an appropriate legal form
must be selected.
• Legal form affects:
– taxes,
– limitations on liability,
– control,
– duration,
– ease of transferring ownership, and
– ease of raising capital
Why do partners often spend more time developing a legal
structure than a business strategy?
Alternative Legal Forms of Business Alliances:
Corporate Structures
• Generalized C Corporation
– Advantages: Continuity of ownership, limited liability,
provides operational autonomy, facilitates funding;
facilitates tax-free merger
– Disadvantages: Subject to double-taxation, inability to
allocate losses to shareholders; relatively high setup
costs
• Sub-Chapter S Corporation
– Advantages: Avoids double taxation; limited liability
– Disadvantages: Maximum of 100 shareholders,
excludes corporate shareholders, must distribute
100% of earnings; can issue only one class of stock,
lacks continuity; difficult to raise large sums of money
Alternative Legal Forms of Business Alliances:
Partnerships
• General Partnerships:
– Advantages: Profits/losses and responsibilities
allocated to partners; avoids double taxation
– Disadvantages: Partners have unlimited liability,
partners jointly/severally liable, each partner has
authority to bind partnership to contracts, lacks
continuity; partnership interests illiquid
• Private limited partnerships:
– Advantages: Profits/losses allocated to partners,
liability limited if one partner has unlimited liability;
avoids double taxation
– Disadvantages: Lacks continuity, interests illiquid;
lacks financing flexibility as limited to 35 partners
(Note: Public LPs can have an unlimited number of
partners)
Alternative Legal Forms of Business
Alliances: Limited Liability Companies
• Limited Liability Companies:
– Advantages: Offers limited liability, owners can be
managers without losing limited liability protection,
avoids double taxation, allows unlimited number of
members (owners), allows corporate shareholders,
can own more the 80% of another firm; and offers
flexibility in allocating investment, profits, losses
– Disadvantages: Structure lacks continuity, ownership
shares illiquid as transfer subject to approval of all
members; members must be active participants in the
firm
Alternative Legal Forms of Business
Alliances: Other
• Franchise alliances:
– Advantages: Allows repeated application of a successful
business model, minimizes start-up expenses; facilitates
communication of common brand and marketing strategy.
– Disadvantages: Royalty payments (3-7% of revenue)
• Equity partnerships:
– Advantages: Facilitates close working relationship; limits
financial risk, potential prelude to merger; may not require
financial statement consolidation
– Disadvantages: Limited tactical and strategic control
• Written contracts:
– Advantages: Less complex; no separate legal entity established;
potential prelude to merger
– Disadvantages: Limited control, may lack close coordination;
potential for limited commitment
Alliance Deal Structuring Issues
• Defining scope in terms of included/excluded
products and duration (Amgen/J&J litigation over who
has rights to future products)
• Determining control and management (how are
decisions made?:steering or joint management
committee, majority/minority, equal division of power,
or majority rules framework.
• How are resources to be contributed (form and value)
and how is ownership determined?
– Tangible contributions (cash or cash commitments
and assets required by the business)
– Intangible contributions (services, patents, brand
names, and technology)
Alliance Deal Structuring Issues Continued
• Governance (protecting stakeholder interests)--board or
partnership committee
• Profit/loss and tax benefits allocation and dividend
determination
• Dispute resolution and termination (Who owns assets
following dissolution?)
• Financing ongoing capital requirements (What happens
if additional capital is needed?; Can the alliance borrow?
Target debt/equity ratio?)
• Performance criteria (How is performance to plan
measured and monitored?)
Empirical Studies of Business Alliances
• Abnormal returns to business alliance partners average about
2% during the 60 days preceding the alliance’s announcement.
• Partner share prices often increase prior to announcement for
alliances involving firms within the same industry as well as in
different industries
– However, the increase is greatest for firms to the same
industry involving technical knowledge transfer.
• Alliances often account for 6-15% of the market value of large
firms.
• While the number of alliances is growing rapidly, about twothirds fail to meet participant expectations.
• Financial returns on investment tend to be higher for those firms
with significant experience in forming alliances.
Discussion Questions
• Why should the development of a business strategy
precede concern about the form of legal arrangement
(e.g., corporation, limited liability company, partnership,
etc.)?
• Discuss the circumstances under which it might make
more sense to use a C-Corporation rather than a
partnership as a acquisition vehicle or post-closing
organization? Be specific.
• Why is defining the scope of a business alliance critical
before legal agreements are signed? Be specific.
Application: Overcoming Political Risk
in Cross-Border Deals
Cross-border transactions often are subject to considerable political
risk. In emerging countries, this risk reflects the potential for expropriation
of property or civil strife. However, as Chinese efforts to secure energy
supplies in recent years have shown, foreign firms have to be highly
sensitive to political and cultural issues in any host country, developed or
otherwise.
In addition to a desire to satisfy future energy needs, the Chinese
government has been under pressure to tap its domestic shale gas
deposits due to the clean burning nature of such fuels to reduce its
dependence on coal. However, China does not currently have the
technology for recovering gas and oil from shale.
To gain access to the needed technology and to U.S. shale gas and
oil reserves, China National Offshore Oil Corporation (CNOOC) Ltd. in
October 2010 agreed to invest up to $2.16 billion in selected reserves of
U.S. oil and gas producer Chesapeake Energy Corp (Chesapeake), a
leader in shale extraction technologies and an owner of substantial oil
and gas shale reserves in the southwestern U.S.
Application Questions
The deal grants CNOOC the option of buying up to a third of any
other fields Chesapeake acquires in the general proximity of the
fields the firm currently owns. The terms of the deal call for CNOOC
to pay Chesapeake $1.08 billion for a one-third stake in a South
Texas oil and gas field. CNOOC could spend an additional $1.08
billion to cover 75 percent of the costs of developing the 600,000
acres included in this field. Chesapeake will be the operator of the
JV project in Texas, handling all leasing and drilling operations, as
well as selling the oil and gas production.
Discussion Questions:
1. Describe some of the ways in which CNOOC could protect its
rights as a minority investor in the joint venture project with
Chesapeake? Be specific.
2. What strategic flexibility do the terms of this deal offer CNOOC?
Things to Remember…
• Alliances often represent attractive alternatives to M&As.
• Motivations for forming alliances include risk sharing, gaining
access to new markets, accelerating new product introduction,
technology sharing, cost reduction, globalization, a desire to
acquire or exit a business, or their perceived acceptability to
regulators.
• Alliances may assume a variety of different structures from
highly formal to highly informal, handshake agreements.
• As is true for M&As, a business plan should always precede
concerns about how the transaction should be structured.
• Business alliance deal structuring focuses on the fair allocation
of risks, rewards, resource requirements, and responsibilities of
participants.
• While business alliances are expected to remain highly popular,
their success rate in terms of meeting participants’ expectations
is about the same as M&As.