2. INCORPORATION AND OWNERSHIP STRUCTURE

This section

• spells out the intent of the parties to form a JV.
• gives the JV a name and defines how it will be governed (under the laws of the province or territory).
• explains how the JV’s capitalCapital: cash, property, equipment, services, and contracts or leases. shall be organized in terms of classes of shares, and how the shares will be divided among the owners.
   

The Legal Form of Incorporation

"Joint VenturesJoint Venture: commonly, a business to which two or more parties contribute the essential land, capital, and services, in return for a share in its ownership and control. (Note: the Joint Venture is very strictly defined under Canadian law.)" happen when two or more parties participate in a project, a series of projects, or a continuing business activity. So a JV occurs whenever an Aboriginal community develops and operates a business with another party. That party may be an individual person, a corporation, or some other kind of organization. The community may undertake the deal through its government, through a subsidiary ADC, or through an individual Aboriginal person.

Legally, “Joint Venture” refers to a general partnership, a limited partnershipLimited Partnership: a legal partnership where some owners are allowed to assume responsibility only up to the amount invested., or a corporation governed by a Shareholder AgreementShareholder Agreement: a legally-binding document which describes the mutual obligations of the parties to a Joint Venture. that defines the rules under which operations will proceed. All these legal formsLegal forms: the structure of an enterprise in the eyes of the law. Canadian law recognizes several ways of structuring a business: the partnership (general and limited), corporation, sole proprietorship, society, and co-operative are among the best known. The law has a specific description of each, including who owns the assets, how decisions are made, and how it is taxed. are subject to the laws of the province or territory in which the business is to be located. 

Other legal forms may be appropriate for JVs, too. The decision depends on the business, the interests of the prospective partners, and the intended duration of their initiative. An Aboriginal Development CorporationAboriginal Development Corporation: corporation that represents one or more Aboriginal communities and is the entity through which business that benefits the community occurs. (ADC) that seeks a partner for a 3 5 year catering contract would likely want to form a limited partnership. Something of longer duration, like a truck hauling contact for a mine, might be incorporated as a company. Taxation is another consideration: each legal form may be differently taxed. Finally, if the JV involves one party buying into an existing business, the legal form of the latter will probably be retained.

The selection of a legal form for the JV will ultimately be a matter for negotiation. (ADCs should get professional advice if there is any question as to which legal form may best suit their interests.)

To simplify matters, the rest of this module assumes that a new legal entity is being created by two or more firms in order to undertake a specific business for a long period of time. Thus, most of this module concerns the legal form known as a corporation, in which the parties to the JV are shareholders.

(A corporation is also a better instrument for building the Aboriginal community’s self reliance. JVs that take the legal form of general partnerships and limited partnerships are often used to capture profits and jobs. These forms are not as good as corporations for building management capacity or credit worthiness.)

Ownership and Share Structure

A shareholder is a person or corporate entity that owns all or part of a business enterprise. Joint venturers are by definition part owners, because they each control some of the business' shares. The value of the shares held by any one shareholder is known as the shareholder's equityEquity: the dollar value of what a person or organization owns (as opposed to debt, which indicates what a person or organization owes). A person or organization can have an equity interest in something if they have part or full ownership..

Shares take several forms, each with its own rates, rights, and preferences. Among many other things, the negotiation of the Heads of AgreementHeads of Agreement: a non-binding summary of the main issues on which the parties intend to base an agreement. will establish the types of share to be created, and the rules and rights that will apply to each type. The law is very flexible in this respect, so shares can be tailored to particular groups of investors. (This flexibility is another strength of the corporation as a legal form for a JV.)

The two basic types of share are the common share and the preferred share. Common shares entitle the shareholder to vote at the annual meeting and on important corporate decisions. As a rule, each share is worth one vote. (Some varieties are designed to carry more than one.) Common shares also expose the shareholder's investmentInvestment: the purchase of a financial product or other item of value with an expectation of favourable future returns. Generally, “investment” means the deliberate use of money in order to make more money. to all the risks of business.

Preferred shares do not have a vote, but the investment of preferred shareholders is better protected. If something goes wrong with the business, preferred shareholders get reimbursed the value of their shares before common shareholders do.

Shareholders generally play a rather limited role in a corporation. They are expected to provide capital, review the managers’ decisions, and give over all direction. But they also use their voting power to elect the board of directors. Shareholders then look to the directors for guidance and results. Therefore, the degree to which you control a corporation depends heavily (but not exclusively) on the percentage of its total shares that you own.

Factors Affecting the Allocation of Shares

When negotiating ownership and share structures, several factors come into play.

• The amount of capital invested by each party is important. If the project is worth $1 million and one partner puts in $600,000, that partner would get 60% of the shares, everything else being equal. However, things are rarely that simple, for many contributions do not come in cash.
• Buildings, equipment, machinery, and land might be contributed by one or both parties to the venture. The value of each contribution will have to be appraised and factored into the allocation of shares.
• The licensesLicenses: documents that must be obtained in order to apply for or carry out certain activities. brought to the table by each party can be very valuable. The success of the business may depend on the patents, trademarks, or other confidential information which one party owns. This is particularly the case in manufacturing businesses. Similarly, an Aboriginal community’s influence on permitsPermits: legally-binding permissions that govern activities that may occur during exploration or mine operation, like quarrying, use or impact on water, building of transmission lines, etc. or licenses can be very significant.
• Other contributive and attributive benefits can also affect the allocation of shares. Examples are the value of existing contracts or market segments or access to special equity funding, to debt or training funds, and to management expertise.
• If the aboriginal collaboration is key to securing a particular opportunity, or where they have ownership of the land, such as category A lands in the Yukon settlement, these are worth equity directly in the company.

Tr’ondëk Hwëch’in made sure when they negotiated there SEPA that strong clauses were inserted that gave clear preference to any company where they had an ownership position. They used these to very good effect. Two of the downstreamDownstream: downstream business refer to suppliers of products and services such as exploration, production, processing, product development, technical services, marketing and sales that supply the mine but are not owned by the mine. opportunities they targeted were supplying fuel to the mine and providing hauling services to and from the mine. With a strong preference in hand they were able to acquire a significant minority equity ownership interest in two different local companies, without any cash. The value and projected profitability of the contracts leveraged direct ownership. Since, Tron Dek has bought out the remaining ownership interest in both these companies.

Share allocation is often misunderstood. In a mining deal worth $100 million, for instance, an ADC is unlikely to get more than 5% of the common shares. That may sound poor - the ADC will not exercise control with just 5%. Still, it can leverage a lot of benefits with that allocation, like access to downstream contracting opportunities. (ADCs may negotiate SEPAs that capture those downstream opportunities despite no share in mine ownership. See *Case Study #2: Raglan Mine, p. Intro-21.)

Drawbacks and Alternatives to Common Shares

Had an ADC a greater number of common shares, it might also be vulnerable to “cash calls.”

A cash call is a demand for capital. Many common shareholders may be subject to a cash call when their business requires more capital. Say a mine came upon adjacent ore bodies and chose to rapidly expand operations. The JV that does the mine’s trucking would have to expand, too. All shareholders in the JV holding 5% or more of its common shares could receive a cash call. Any shareholder unable to answer that call stands to see his/her ownership of the business reduced by the other partners.

So ownership comes with a kicker: possible exposure to cash calls. Also, if the business loses money, an owner is exposed to losses. To be allocated a lot of common shares is only good if the ADC has ready access to cash.

If an ADC wishes to gain influence in a big firm, there are alternatives to common share ownership. For example, the ADC may well be able to secure one or two non voting seats on the board of directors. In this way, the ADC can take part in company discussions as well as monitor the decision making. Alternatively, the Heads of Agreement could stipulate that the ADC gets a representative on the management committee.

Still another option is for the Heads of Agreement to include a section of rules that the business must obey. These rules are called “protective covenants.” For example, there are many JVs in which Aboriginal parties have negotiated equity, but use protective covenants to avoid exposure to cash calls. See the topic “Protective Covenants,” p. 6-37.)