Joint ventures – preparation for separation
Housing associations using joint ventures for development has been a well-established trend now for more than a decade, enabling the sharing of risk and reward, and, for the most part, fruitful partnerships with housebuilders, local authorities, investors, and other participants.
The recent Sector Risk Profile report, issued by the RSH in October 2021, identified that forecasts for development "have now broadly returned to pre-pandemic levels" and that more than 70% of the market sale units sold by sector-controlled entities are anticipated to be delivered by way of joint ventures.
Certainly, joint ventures look here to stay. But what happens to the partnership and to the development itself in the event of a 'divorce'?
Given that joint ventures have been a popular delivery tool for a few years now, it's not surprising that we are now seeing 'cracks' in some partnerships. This is compounded by market pressures as construction input cost inflation is currently rising sharply and firms face severe shortages of materials and lack of available transport capacity. The Financial Times recently reported that hundreds of UK construction businesses are going into insolvency every month as a result of rising costs in the sector.
It is critical therefore for housing associations to assess the financial strength of their chosen joint venture partner, as well as identifying a partner with an aligned philosophy. Those providers which have already entered into a joint venture should also review these issues periodically to ensure that risks are appropriately managed.
As part of this process, housing associations should consider their options on exit and for bringing in a replacement partner in the event that their original partner gets into financial difficulty or businesses stop to be aligned strategically
Typically, a joint venture is formed by way of a corporate vehicle, such as a limited liability partnership (an "LLP"). A well-drafted LLP agreement will contain detailed provisions to allow for the removal of an insolvent joint venture partner, for exit, in the event of deadlock, or even on occasion, a right to exit.
In such cases, housing associations will need to consider:
- the timescales to which they would need to work when using such provisions. Will new board approvals be required and how long will that process take?
- the mechanism for setting the price at which any buy-out would be undertaken and the flexibility that they may have to bring in a third party.
- the terms of the service agreements with the joint venture partner, for example DM services. It is usual for these agreements to provide for a no-fault right of termination exercisable both by the service provider and by the client in the event that the partner is no longer a party to the joint venture, but the relevant provisions will need to be reviewed to ensure that they are fit for purpose. If the housing association is keeping the project, how will it be administered in the absence of the relevant service provider?
- issues arising from the construction supply chain. Which entity (the LLP or JV partner) has entered into the key appointments and trade contracts? If the partner leaves the joint venture, can the housing association and any replacement partner keep the supply chain going? In the event of the departure of the joint venture partner housing associations would need to assess whether it is in a position to continue to instruct the relevant contractors, or whether it needs to negotiate a novation of the appointment (or, as this would involve the outgoing joint venture partner in negotiations, potentially negotiate a new appointment). Joint ventures which are established on a contractual basis, will also need to consider how contractors are appointed. Use of joint appointments can ensure that the remaining partner can continue to instruct and rely on the work of the contractors, but the outgoing partner would remain liable under the relevant appointment unless released by the contractor. Parties may wish to consider building in pre-agreed novation rights.
- the procurement position needs to be navigated but there are certain “safe harbours”’ where a replacement partner can be appointed without having to run a regulated procurement exercise.
- If the housing association is leaving the joint venture, what will happen to the affordable housing contracts, should they survive, and if they do, is the housing association sufficiently protected now that is no longer has any input at LLP level.
Ideally housing associations will consider these issues prior to entering the JV, so that protections can be addressed at the outset, and so the joint venture can continue to deliver the project in the event of a separation, bringing in replacement partners as desirable.
Fortunately, most partnerships do not end in divorce, but we are increasingly seeing separation as a result of market pressures and as businesses strategic paths change, taking them away from their original partners. As such, considering the 'pre-nup' is an important part of the marriage process.