SELECTING VENTURES & PARTNERS – REAL LIFE

In real life, the sequence in which Due DiligenceDue Diligence: a financial and technical investigation to determine whether an 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. is sound. Each party to a business 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. uses Due Diligence to ascertain the actual quantity and quality of the assets which the others claim they can contribute., Feasibility StudyFeasibility Study: a study of a proposed project’s product or service, market, competition, organization, and finances to determine if it can make a profit., and the Heads of AgreementHeads of Agreement: a non-binding summary of the main issues on which the parties intend to base an agreement. occur may be more complex. It will depend on whether the venture in question is a new one or an acquisition. It will depend on the benefits you and your prospective partner can contribute to the JV. It will also depend on how much time is available to capture an opportunity.

Consider one of Kitsaki’s experiences:

Our first Joint VentureJoint Venture: commonly, a business to which two or more parties contribute the essential land, capitalCapital: cash, property, equipment, services, and contracts or leases., and services, in return for a share in its ownership and control. (Note: the Joint Venture is very strictly defined under Canadian law.) was a new trucking business. We were motivated by a lucrative contract. There was a specific time frame in which to tender our bid. We couldn't have all of the feasibility and due diligence work done before we had to bid. We started our Heads of AgreementHeads of Agreement: a non-binding summary of the main issues on which the parties intend to base an agreement. negotiation assuming the business would be profitable. Here is how our timing went.

• In September Kitsaksi staff held preliminary discussions about the venture opportunity. We began to do homework on our potential partner(s).
• In October we initiated negotiations on the Heads of Agreement. They were finished within 60 days, by the end of November.
• At the beginning of November we started a Feasibility Study and then a 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.. They were done by the middle of December.
• The Due Diligence began in mid December and was finished by the end of February.
• The Shareholder AgreementShareholder Agreement: a legally-binding document which describes the mutual obligations of the parties to a Joint Venture. was concluded that May.

Nine months in all. The bidding process made it wise to commence negotiating a contract just on the basis of the Heads of Agreement.

This story raises several important points.

First, you will seldom have 100% of the information you would like to have at the beginning of negotiations. To start discussions, you just need enough information to satisfy yourself that the venture in question is sound. The rest of your research has to proceed during negotiations.

Second, circumstances may dictate that a contract is negotiated and operations commence merely on the basis of the Heads of Agreement. That has its risks. A Heads of Agreement is not legally binding. If your research affirms the quality of your partner, it could be a risk worth taking.

Third, the Feasibility Study is a crucial document for determining profitability. It is unwise to sign a Heads of Agreement without being convinced that the business is viable and worth your 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.. In the example, the partners commissioned a feasibility analysis very early in the process. Operations were underway before the business plan was completed.

Fourth, the timing of the Due Diligence can vary. When the venture is a new one, it can start between the time you have a Heads of Agreement right up to commencement date of the business.. When the venture involves the purchase of all or part of an existing business, things are different. Due Diligence can and should start right away, and include everything from that business' finances and equipment, right down to an inventory of the office supplies. Practically no asset is irrelevant.

You have to find out that everything your partners says about themselves is true – everything. You almost can't ask too much.

Partners make all kinds of claims about what they can contribute to a venture. They say they've got 28 trucks.

Well, it would be nice to know that the trucks run or are capable of running, what mileage is on them. You've got to get out there and kick the tires. You have to look for “inflation speak.” For example, they call that thing a truck and it's a 1983 Toyota. You have to make sure that their financial statements aren't doctored. You've got to get some second opinions. Details matter. Don't ignore the little things

Your partners are going to do that with you. It's a sort of flinch test. And believe me, in spite of the fact they may be annoyed at having to be accountable, they will have more respect for you. They will understand that you're paying attention.

Feasibility study and Due Diligence can have a significant impact on JV negotiations. Where circumstances permit, get them started and finished as early as possible. Whatever the circumstances, complete the Due Diligence before signing the Shareholder agreement. It finalizes the JV.