During the recent years international joint ventures have become a common organizational form. A stream of research has focused on the ownership share that partner companies take in international joint ventures and the leverage this may provide for control. The control and management of an international joint venture represent a particular challenge in the situation when there is a large distance between the partners in terms of geography, culture and institutional environment.
Alliances between developed and developing or transition country partners often contain considerable distance of this kind but they bring advantages for both partners. Despite the difficulties that can arise, developing countries are becoming increasingly important hosts for foreign direct investment.
We are given the task of investigating the possibilities of a Scottish company entering a foreign market- the market of Brazil and this task arises many important issues to consider. Since Brazil has a policy of local content which prevents foreign companies from providing operations in its market, the only suitable way for the company is to organize a joint-venture with its Brazilian partner. However, the problem of creating a joint venture appears to be a very complex issue, so in order to give all the necessary advice for the company and make sure we cover all the issues connected with the problem, we are going to provide a detailed analysis
By making a decision of entering the Brazilian market, the Scottish company is going to enter into a joint-venture because legislation in Brazil prohibits any other ways for foreign countries to conduct business in it. This means that the Scottish company is going to conclude a long-term agreement with her Brazilian partner to acquire a jointly-owned company in the foreign market. For the Scottish company the creation of a jointly-held subsidiary implies the sharing of unique, specific skills in technology and management, as well as financial and human resources. Both the Scottish and the Brazilian partners are going to provide their joint-venture with both capital and non-capital investment.
The main prime capital resource incorporated into the Scottish-Brazilian joint venture will include cash but the provision of technology, land, facilities and brand names can also be entered as assets on joint-venture balance sheet. In order to make sure that the joint-venture organized by the companies is successful in future, it requires real co-operation and total commitment to a common objective of both the Scottish and the Brazilian party.
The main issue, therefore, for the Scottish company is to make sure that the Brazilian company with which they have ties is a reliable partner and prevent the company from the loss of technology in the result of the joint-venture creation. Creating a joint subsidiary in a foreign market for the Scottish company this appears the most efficient way of penetrating a Brazilian market, the features of which are legislation, cultural and commercial differences between Britain and Brazil.
The creation of a joint-venture with Brazil offers the Scottish company the following advantages which couldn’t be reached otherwise.
Since the joint-venture will be able to use the Brazil company’s well established links with local companies (for example, with Petrobras), it will be much easier for the Scottish company to provide the penetration of the Brazilian market and it will not require as many financial resources. Financial risks and costs are going to be shared between both the Scottish and the Brazilian partners which lowers the country risk for the Scottish company and increases the amount of resources which can be put into the company.
The joint-venture will provide a lower commercial risk for the Scottish company due to the Brazilian company’s market experience in the local market and its management skills and also help the Scottish employees who will be new in Brazil to establish the ties with local companies much faster and make fewer mistakes connected with Brazilian traditions.
The joint-venture will let the Scottish company be perceived by the Brazilians as a local company and this is going to permit better relations with government and unions as well as potential customers and partners in Brazil. In comparison with the structure of a branch or subsidiary, the impression of a joint-venture in much more favorable and it’s another important argument for the Scottish company on the necessity of creating a joint-venture in Brazil to penetrate the market.
The control of commercial policy and market knowledge of the Scottish-Brazilian joint-venture are going to be provided on a very high level as long as the Scottish company transfers its internal stuff into the joint-venture and will be given a right to make decisions in the company.
Despite all the advantages of creating a joint-venture, there are many disadvantaged which the Scottish company might have to face and they are very important issues to consider.
In comparison with the profits which the Scottish company would be getting by creating a subsidiary, in a joint venture the profits are going to be shared and thus the profits are going to be split. Therefore, it’s necessary for the Scottish company to mark in the agreement how the profits are going to be shared and since it’s the one providing the technology, it has to argue for a maximum share of profits in order to provide profitability for the enterprise.
The structure of the joint-venture is more formalized than other forms of partnership and it will require many skills of the Scottish company management and lots of consulting on the organization structure. As the material and intellectual contribution of the Scottish and Brazilian companies are going to be very different, it will require lots of work on evaluation of every company’s contribution in order to determine the correct allocation of dividends between the parties.
Since the management of the joint-venture is going to be combined of both the employees of Scottish and Brazilian companies, there is a risk of disagreement over the managerial policy in the joint-venture as managers from both companies will try to carry out the policy for their own benefit.
There is going to be a significant risk of a stolen industrial know-how by Brazilians from the Scottish company which provides the technology because employees of the joint-venture will be able to use the technology on equal terms. Even though the new technologies which will arise from the joint-venture will belong to the venture, the Scottish company will still have a right for all the know-how which is originally its own, so stolen intellectual property issues might often arise. It’s very important for the Scottish company to arrange the protection of patents, trade secrets and proprietary information since it’s the one supplying all the technology, so it needs to conclude a Confidentiality and Non-Disclosure Agreement which prohibits one party from disclosing other party’s sensitive information, and limiting its use to only the furtherance of the joint venture.
The provided advantages and disadvantages of entering into the joint-venture by the Scottish company show that as long as the company takes all kinds of measures which protect it from the disadvantages, it’s going to get lots of benefits from entering the Brazilian market in the described way. It’s very important for the Scottish company to establish the joint-venture exactly in Brazil and not in Scotland because the allocation in Brazil offers many advantages.
After the decision of creating a joint-venture in Brazil has been adopted and substantiated, further research has to be provided. The first important issue is defining the managerial structure of the joint-venture. Since the Scottish company is the one which has all the technology and most of the financial resources invested in the company, it’s very important for it to place her former employees on the managerial positions in the company. In order to create the most efficient structure, the Scottish company also needs to employ some of the Brazilian management to the board of directors of the company because they are very knowledgeable in the Brazilian market and thus can participate in the development of the strategy of the company.
However, an important issue to consider is making sure the Scottish management is able to influence all the major decisions because the Scottish company needs to make sure the policy which the joint-venture provides is the closest to its needs. It’s clear that many contradictions are going to arise owing to the fact that multinational management will be running the company but if correct policy is applied, the Scottish company will be able to avoid the disadvantages of the structure and enjoy the benefits of advantages.
The main issues which have to be settled management wise are: the Chairman of the company, the CEO, whether each party has an equal number of Directors on Board of Directors (notwithstanding percentage ownership). Another issue is providing efficient financial control in the joint venture, who the monthly/yearly auditor is, defining whether both parties have CFO’s. In order to protect its money, it’s also important for the Scottish company to determine that expenditures over $ 10,000 require signature of both parties’ representatives.
One more issue is defining what currency is going to be used in accounting. In international oil industry, all oil is priced and paid for in dollars, and we can assume that Petrobras may be paying in dollars as well but it’s better for the Scottish company to make sure is everything accounted for in dollars. If in Brazilian currency is chosen as a footnote, there may be too much fluctuation which will not be beneficial for the company’s profits and the Scottish company might suffer from the currency risk. The main instruments which the Scottish company will have to use in that case are going to be forward, futures, swap and option contracts which are all widely used in the world for hedging currency risk.
One more issue which needs consideration from the Scottish management is who is going to pay the taxes for the joint-venture- both parties or the Brazilian partner itself. It’s a very important issue for consideration because the Scottish company certainly would like to avoid any kind of double-taxation which oftentimes results from providing overseas operations. There might be a possibility of registering the company in the area with lower taxation rates if that is possible in Brazil. It’s also important to consider for the Scottish company who takes risk of foreign exchange controls.
There has to be a settlement of the problem offered in the first place if Brazil tells the joint venture that they can’t take dollars out of the country. There also has to be worked out a solution for the case if Scottish company wants to repatriate its profits and is not allowed to. It has to be fixed whether the joint venture needs to get government approval for repatriating investment and dollars out of Brazil and it’s vital to make sure the joint venture is free of government interference.
Other issues which the Scottish company has to cover in the agreement about the joint-venture creation are the contribution of capital or technology to the joint ventured and how all those contributions are valued. The issue of patents and trademarks is crucial in the joint-venture, so license fees have to be paid by joint-venture to the Scottish company which is the one that supplies the joint-venture with all the technology.
It has to be determined in the agreement whether cash investors get paid out first and what the pro rata distribution is, whether it is the distribution pari passu (one dollar to the Scottish company and one dollar to the Brazilian company, or whether one party gets his cash back first, whether the joint venture pays a fixed guaranteed rate to the Scottish company or the Brazilian company (say 6% fixed interest rate and return of capital) no matter what, whether the Scottish company or the Brazilian company gets all of their cash back once the joint-venture is operating and generating revenue.
The problems of the liquidation of joint venture need to be considered, too. If it appears a joint venture of limited duration (say 10 years), it has to be explained how the value of the joint venture is determined and whether each party has a right to purchase the other party’s ownership interest.
Another important issue which the Scottish company needs to deal with is the issue of the cost objects to collect the venture’s expenditures. There are many ways to organize the cost structure in the joint venture but the best structure for the Scottish-Brazilian joint venture is going to be the structure which is provided below.
This structure is designed for the upstream oil and gas industry and shows how the Scottish company in a venture can instigate the creation of integrated master data to collect expenses from the Brazilian venture partner. The result of this structure is a streamlined business process that saves time and money.
The functions of the v
enture operating partner- the Scottish company- are going to include:
- Collecting venture expenses. In a joint venture it’s important to allocate various costs among multiple cost objects for the distribution to the ventures. The Scottish company must also be able to bill joint venture partners through cutback. Allocation is the process by which billable and billable costs, such as facility, payroll and related expenses are distributed are distributed to cost centers or projects receiving services or benefits.
- Assigning venture codes to stock transactions.
- Collecting non-capital development costs. Not all development costs are capitalized. Non-capital development costs are often collected in a cost center, rather than a project.
- Recording capital expenditure.
The functions of the joint venture revenue analyst which for the highest efficiency should be one of the former employees of the Scottish company are going to be the following:
- Creating production cost center. Cost centers are generally used to collect expenses incurred by a company. The Scottish company will want to create a production cost center to collect venture expenses in order to provide maximum efficiency.
- Creating stock cost center. A joint venture uses special cost centers to assign venture coding to stock transactions. The Scottish company needs to create a stock center for the venture,
- Creating a development cost center. Sometimes a joint venture uses a cost center in order to code venture details of transactions that have no cost accounting data. It’s important for the Scottish company to make sure there is a development cost center in the joint venture.
- Creating a development project.
The functions of the venture operating partner- the Brazilian company- are going to include:
- Incurring expense in the venture. As a non-operating partner, the Brazilian company incurs expenses in the venture, according to your equity share.
- Incurring non-capital development costs.
It’s also necessary for the analysts of the Scottish company to provide the research of the Brazilian market in order to analyze all the possibilities arising from entering the market. It’s very important to do all the research of the foreign market which the company is going to penetrate in order to know all the main details about the market. The analysis has to include research of the state of oil production in the country and its perspectives in order to define the future effectiveness of the project; analysis of the main examples of joint-ventures which were organized in Brazil; analysis of legal framework in Brazil which will influence the activity of the joint-venture.
The issues connected with human resources of the company will be particularly difficult for the Scottish company due to the differences in culture with Brazilian employees. It will be hard for Scottish employees to adapt to the realities for a while and that is why it’s very important to make sure all the Brazilian employees all perform a very high knowledge of the local market and implement the ideas which the Scottish employees have developed while working for the parent company. Other issues which the Scottish company will have to consider human resources wise, are the differences in society, culture, language, work ethic, hours employed per week, working hours, fair labor standards, sexual harassment.
It’s also important to mention such aspects as women in the workplace, dress code which might be different in Brazil, language used- it ought to be English as agreed for all legal, financial, engineering, technical and managerial purposes. Minor issues like meals, health insurance, medical, housing etc. benefits, housing allowance for foreign workers, security, salaries of employees and officers (whether Scottish employees always get paid more than Brazilians), home leave – three weeks per year accumulated, vacation leave – amount for workers and officers, holiday leave (that Scots get their holidays and Brazilian holidays off as well), hiring of relatives (nepotism) – permissible in Brazil but not in Europe.
Before the final decision is made, all the mentioned issues have to be straightened out. Even though the joint-venture appears a very favorable structure which answers most of the Scottish company’s needs, very detailed considerations have to be made in order to avoid all the losses.
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