6. CAPITAL

This section spells out

• the responsibilities of the parties to provide capitalCapital: cash, property, equipment, services, and contracts or leases. to the corporationCorporation: the most common form of business organization. It pursues set objectives and is empowered with legal rights usually only reserved for individuals, such as to sue and be sued, own property, hire employees, or loan and borrow money..
• action to be taken, should one party fail to meet its obligations under the agreementAgreement: any explicit, signed document that is negotiated and includes mutual concessions or limitations placed on both sides. Examples are Negotiation AgreementsNegotiation Agreement: an early agreement in the mining process, likely to occur in the Exploration StageExploration Stage: the whole range of activity from searching for and developing mineralMineral: A naturally-occurring, homogeneous substance that has a definite chemical composition and (usually) a crystalline structure. deposits., which would outline the basis of the relationship between the Aboriginal group and the mining company and how the relationship will evolve if the mine moves forward. , Exploration Cooperation Benefit Agreements, Socio-Economic Participation Agreements..

This is where the parties to the JV tackle the issues of how, when, where, and why capital or assets will be contributed. Where the capital contribution is not in cash, the value is attributed to services and other benefits brought by that partner. Schedules usually specify the date by which capital is to be contributed and in what form.

Some of the matters to consider in this section are summarized below. (See Diagram 6-1.)

Cash

Cold, hard cash is the most likely and obvious form in which to contribute capital to a JV. Shareholders might make these contributions only to cover its initial expenses. Alternatively, each partner may have to contribute a lot of cash because of the nature of the project and because it cannot borrow enough money. No lender is going to provide 100% of a venture's cash needs. The partners must therefore come up with the balance.

Property

Contributions may also be made in the form of property. It may be real property, with fee title and on site improvements and facilities. It may be machinery and equipment required in the business. See the Topic “7. Equipment,” below p. 6-28.

Services and Contracts

Sometimes partners have little or no cash or property to contribute to a JV. Instead, they seek to obtain a shareholder interest by offering services to the venture. Organizing the JV or its financing or managing the business are all examples. Such partners essentially sell these services for a price equal to the value of the shares they are allocated.

This occurred when a construction firm was formed to compete for the construction of a new ferry terminal on traditional lands on Vancouver Island. The First Nation managed to negotiate a 20% share of the firm’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. with no exposure to cash calls. From the perspective of the company, it was granting equity in return for marketing and brokerage services.

ADCs may also have experience and expertise to contribute in return for a share in the company. They might offer to negotiate favourable loans or loan guarantees from an ADC. They might also obtain financing from the Aboriginal Business Development Program or arrange federal funding for training.

Parties to the JV may also contribute any contracts they have in hand. Once the net value of these contracts has been appraised, they too can be considered part of the capital contribution.

Lease

A capital contribution may also take the form of a lease of real property. For example, a partner with an option on or title to a piece of property could assign that right to the JV.

Say a marshalling yard for a trucking venture is to be built on Aboriginal land. The ADC might acquire a lease from its government at a favourable rental. The ADC could then contribute that lease or assign the lease to the JV in return for a percentage of ownership. The partners then ascribe to the lease a dollar value so that it can be compared to the other capital contributions. This value can be determined by any one of a number of methods, including present value analysisPresent Value Analysis: a method used to determine the present value of money for the payment of future rent..

Timing of Contributions

Having determined the capital contributions that each shareholder will make, the next likely issue is when each contribution shall occur. This is especially important for contributions in cash. A shareholder may offer $50,000 to a project, but will only contribute $25,000 now and $25,000 in nine months. The agreement must specify when and how these contributions will be made.

Defaults

The agreement must also carefully specify the consequences of a failure to make the agreed contributions. A JV can only proceed on the expectation that the various obligations will be met on time. If certain cash contributions are not made, the project's cash flow and loan arrangements may well be compromised.

Additional Capital Contributions

The JV will start on the basis of a projected Profit and Loss Statement and Balance Sheet. These financial projections clarify assumptions about the project’s capital needs and operations. They are only estimates, however. To survive, the venture may well end up needing capital above and beyond these estimates. Therefore, the agreement should indicate how each partner is going to be assessed for additional contributions, if required.

• Will the additional contributions be mandatory or voluntary? If mandatory, state who is responsible for determining a need for additional capital. ADCs with little access to capital must be careful here to negotiate for a protective clauseClause: a subdivision (often numbered) of a document, that clarifies, defines, or explains the subject matter. Often called a provisionProvision: an action or item stipulated by an agreement. Often called a clause... (See “Protective Covenants,” below, p. 6-37).
• If additional voluntary or mandatory contributions are made, how will they affect each shareholder's ownership interest? Will it change or remain the same?
• If the ownership interest changes, can it change to such a degree as to alter who controls the enterprise? Even if ownership does not change, the allocation of profits might well change. The partner who made the additional contribution will receive in return a proportionately larger slice of the profit.
• What if a shareholder defaults on his/her commitment to make additional capital contributions? If there is no penalty, a partner may simply refuse. That could jeopardize the JV.
   

Loans by Shareholders

In addition to capital contributions, or as an alternative to additional capital contributions, shareholders may loan money to the business. Rather than invest money, some shareholders will prefer to lend to a JV. The interest rates to be charged and how the loan will be secured must be worked out. This is called a shareholder loan.

Note that the final agreement should state that such loans are “subordinate” to all the JV's third party debts and liabilities. In other words, if the JV fails, shareholders’ loans will be amongst the last to be repaid. (The agreement may also state that these loans will nevertheless get repaid before any capital is returned to shareholders.)

Leasing of Property

Rather than contribute land or equipment, a partner might rather lease it to the JV. The partner can then retain title to the property. This arrangement might also suit the other partner better, if the value of that property could represent an undesirably large share of the JV’s ownership. The JV might also lease the property at market value to allow a more even allocation of shares among the shareholders.

Kitsaki's trucking JV is a good example of the way various forms of capital can be brought into play. The partners blended cash, assets, and contracts to capitalize the venture. It shows how complex this part of the negotiation can get, and reveals some financing innovations.

In the trucking deal I believe Kitsaki contributed about $1.7 million in contracts, $540,000 in capital, and $150,000 or so in equipment. Taken together, this made for about $2.3 million in equity. We relied on the government to come up with a cash contribution, too. That put us in a bit of a dilemma. It took the government approximately 26 months to respond to our business planBusiness Plan: a document that describes the goals of a business for a specific time frame (usually 3-5 years) and the strategy to be followed to achieve these goals. Making a business plan is a 4-step process: data collection and business definition, research analysis, strategy formulation, and forecasting..

In the meantime we were forced to find another way to come up with our capital contribution. There was no way we could come up with it by the due date. But the contracts and equipment we were contributing to the project certainly had value.

Our partner was gracious enough to loan us the capital that we needed. (This is a fine example of how a good partner can help an ADC get financing that is otherwise unavailable.) Naturally, we had to repay the loan with interest. This could have left us in a vulnerable position. If we defaulted on our payments, they could shut us out of the business. But since provincial policy required northern or Aboriginal participation in businesses in the mining sector, that option would hurt them as much as it would us. Without an Aboriginal partner, they weren't going to do business with that mine at all.

In the end, they made a fair amount of money from us in interest. When the money finally did come in from the government, we were able to cash it out very happily with benefits to spare.