Setting up and operating a joint venture

Structure

Are there any particular drivers in your jurisdiction that will determine how a joint venture is structured?

The joint venture parties’ objectives are the main drivers when structuring a joint venture in Germany. The key drivers may include the parties aiming for a strong or a rather loose form of their cooperation and whether the cooperation is disclosed to third parties. Often, tax considerations have a major impact on the structure of the joint venture. Further aspects include the desired liability regime, corporate governance structure, the financial and regional scope of the cooperation as well as the envisaged duration of the joint venture.

Most common legal forms of an equity joint venture are GmbHs or limited partnerships with a GmbH as their sole general partner. The respectively applicable rules of German corporate law are flexible and allow a variety of cooperation models. Irrespective of the specific cooperation model, joint ventures may themselves qualify as a private company under German law. This has the effect that certain rules of the German Civil Code may apply, which can only be modified to a limited extent.

Tax considerations

When establishing a joint venture, what tax considerations arise for the joint venture parties and the joint venture entity? How can tax charges be lawfully mitigated?

Tax structuring considerations when setting up joint ventures are limited by the overarching principle that taxes generally have to be paid in the jurisdiction where the joint venture conducts its respective business. In the event that the relevant business is conducted in a high-tax jurisdiction, structuring considerations regarding legal form and the main seat of the joint venture entity will only have limited tax effects on the joint venture parties and the joint venture entity. Irrespective of whether the joint venture has its main seat or only a branch in Germany, German-related business activities will be subject to German taxes.

When transferring assets to a German joint venture, certain transfer taxes may apply, such as real estate transfer tax. In addition, asset transfers to a joint venture entity can potentially lead to taxable gains. In certain cases, assets may be contributed to a joint venture on a tax-neutral basis, in particular, pursuant to the German Transformation Tax Act. In the event that the joint venture entity is a German corporation, the sale of an interest in the corporation is potentially subject to only limited taxes in Germany.

For certain legal forms such as GmbHs, withholding taxes may be potentially reduced to zero if the dividends are distributed to a shareholder in a member state of the EU and such shareholder owns at least 10 per cent of the share capital in the joint venture entity.

In addition, Germany is party to a large number of double-taxation agreements with other nations, which include potentially beneficial regulations for foreign joint venture parties (eg, on collection at source).

Asset contribution restriction

Are there any restrictions on the contribution of assets to a joint venture entity?

In Germany, there are no restrictions on the contribution of assets to a joint venture entity. However, depending on the type of joint venture entity and if assets are contributed in connection with the process of raising or increasing the share capital, strict rules apply with respect to accurate valuation of the contributed assets. In the event that inaccurate valuations are used to the detriment of the joint venture entity, the respective contributing shareholder may be held liable. Apart from these rules on the injection and maintenance of the share capital, no other restrictions on the contribution of assets to a joint venture entity apply.

Interaction between constitution and agreement

What is the interaction between the constitution of the joint venture entity and the agreement between the joint venture parties?

As the articles of association of corporations are publicly available, it is common to only include the mandatory formal provision in these constitutional documents. In contrast, the joint venture agreement will usually include the detailed framework for cooperation between the parties. The key points in the joint venture agreement often include rules on contributions, corporate governance, shares in profits and liability of the joint venture partners as well as duration of the cooperation. The scope and focus of the key terms differ from joint venture to joint venture.

With respect to the interaction of the agreements, it is key to understand that the rules of the joint venture agreement are only binding in the internal relationship of the joint venture parties. Hence, certain provisions must be included in the articles of association to be valid with in rem effect regarding third parties (eg, rights of first refusal for shares in a GmbH).

In the event of inconsistency between the provisions of the constitution and the joint venture agreement, the parties’ agreement determines, for their internal relationship, which rules prevail. In most cases, the parties are bound by the joint venture agreement to give effect to its rules, including potentially required amendments of the joint venture entity’s articles of association in the case of inconsistency. However, in the case of inconsistent provisions, which must be included in the articles of association to be effective, the respective rules in the articles of association will prevail in relation to third parties.

Party interaction

How may the joint venture parties interact with the joint venture entity? Are there any restrictions?

The interaction of the joint venture parties with the joint venture entity is subject to the contractual agreement. German law provides for a wide range of possible arrangements. However, applicable laws may limit the scope of information to be legitimately shared owing to restrictions under competition law (eg, production cost, prices or market strategies) or owing to rules relating to the protection of personal data.

Regarding a GmbH, German law provides a level of protection for joint venture partners by providing rights to a minimum level of information in respect of the joint venture entity. This includes, in particular, the right to review the books and records of the joint venture entity.

Exercising control

How may the joint venture parties exercise control over the joint venture entity’s decision-making?

The main instruments of control over the joint venture entity’s decision-making are shareholders’ information rights (see question 9), mandatory notices to the joint venture parties for shareholders’ meetings, the rights of each joint venture partner to participate in shareholders’ meetings, and the rights to take part in the voting and decision-making process in shareholders’ meetings. Finally, each shareholder of the joint venture entity has the right to challenge shareholders’ resolutions. In the event that the joint venture entity is a GmbH, minority shareholders with at least 10 per cent of the voting rights can convene shareholders’ meetings and force decisions on certain items. This alone can be a powerful instrument for minority investors if respective majority requirements for decision-making were implemented.

The main forum where the joint venture parties may exercise control over the joint venture entity’s decision-making is the entity’s general meeting. Agreements on applicable majorities may ensure that certain decisions are not taken without minority investors’ votes. In a GmbH, the shareholders have extensive rights to instruct the company’s management by way of shareholders’ resolutions to take or to refrain from taking certain actions.

Governance issues

What are the most common governance issues that arise in connection with joint ventures? How are these dealt with?

The most common governance issues that arise in connection with joint ventures concern the balance of power between joint venture partners, especially in joint ventures between equal partners and the agreement on and nomination of the members of the executive management. Deadlock provisions are also very common corporate governance issues (see question 21).

The powers of joint venture partners are typically balanced by implementing joint decision-making procedures. Such rules can include the implementation of financial limits for transactions for certain or all members of the executive management and require joint decisions of the management board for these items. Another option is to establish an approval process so that certain decisions or actions may not be taken without shareholders’ approval or to transfer the authority for the decision to another management body (eg, an advisory board). Further common measures include the allocation of responsibilities for specific areas to certain members of the executive management so that each manager has broader discretion for decisions within his or her responsibilities. Commonly, a combination of these measures is implemented.

Nominee directors

With an incorporated joint venture, what controls exist in your jurisdiction in relation to nominee directors? How should a nominee director balance the potentially conflicting interests of the joint venture company and the appointing shareholder?

The means and possibilities of management control largely depend on the form of the joint venture company. In a GmbH, as the most common joint venture entity, the shareholders have extensive instruments at hand to control and instruct the executive management, including nominee directors or by way of shareholders’ resolutions with a simple majority of the votes cast. The shareholders may pass shareholders’ resolutions with specific instructions that must be observed by all members of the executive management. In contrast to these far-reaching capabilities of GmbH shareholders, the stockholders of a German stock corporation have only very limited means to control the executive management. In particular, the executive management of stock corporations is not bound by stockholders’ instructions.

Nominee directors must act in the interest of the joint venture entity and not for the benefit of the nominating shareholders. Otherwise, managing directors, including nominee directors, may be held liable.

Competition law

What competition law considerations are engaged by the formation and operation of the joint venture? Is approval needed?

The formation or acquisition of an existing joint venture is, irrespective of it being fully functional, subject to German merger control where one or more parent entities acquire either at least 25 per cent of the shares or voting rights, or control over a joint venture (provided that the applicable turnover thresholds are met).

Even if a filing requirement is formally triggered, the German Federal Cartel Office has no capacity to review transactions that have no ‘appreciable effect’ on German territory.

The authority may review potential coordinative effects between the joint venture and its parent entities and, in the case of non-compliance, prohibit joint ventures pursuant to the cartel prohibition. Such proceedings are not tied to a statutory deadline and are conducted independent of merger-control proceedings.

Provision of services

What are the key considerations in your jurisdiction in structuring the provision of services to the joint venture entity by joint venture parties?

The key objective in structuring the provision of services to the joint venture entity by joint venture parties is to provide any services at arm’s length (ie, market terms). In the event of a discrepancy between the value of the services that are provided to the joint venture company and the value of the respective consideration to the benefit of the shareholder, the provision of services could qualify as hidden profit distribution. Such hidden profit distribution has negative tax implications on shareholders and on the level of the joint venture entity. In addition, such mismatch of service value and respective consideration may affect the agreed commercial balance between the joint venture partners. Other major structuring considerations include agreeing regulations to ensure a certain quality of the services and rules on liability and liability limits in connection with such services.

Employment rights

What impact do statutory employment rights have in joint ventures?

German employment law can have a significant impact on joint ventures depending on the joint venture structure adopted.

For example, if a joint venture party contributes significant tangible or intangible assets (including employees) to the joint venture entity, it may lead to a transfer of business. As a result, the employees of that respective business at the time of transfer are automatically transferred to the joint venture entity by operation of law, including the rights and obligations of the employment relationships (including all individual contracts, collective agreements, pensions, etc) of the transferring employees.

If only employees of a joint venture party are intended to be transferred to the joint venture, the parties can, for example, agree to second employees for a limited period of time to the joint venture. Such secondment has to comply with the German Act on Temporary Work (eg, permission to lease employees for a maximum lease period of 18 months). Another option would be to transfer the employment relationships to the joint venture under tripartite agreements between the employees, the employing entity and the joint venture entity.

In certain scenarios, co-determination rights of works councils may apply, pursuant to the German Works Constitution Act. This is the case, for instance, if the establishment of the joint venture leads to a change of the operation of a joint ventures party. Such change of operation can be triggered if a part of the business has to be carved out before transferring this part to the joint venture entity. A change to the operation triggers co-determination rights of the works council; namely, it will be required to negotiate a reconciliation of interest (setting out what, how and when the changes are to be implemented) and a social plan (concerning compensation for the employees affected by the proposals, namely, termination payments, relocation benefits, etc).

Intellectual property rights

How are intellectual property rights generally dealt with on the creation, operation and termination of a joint venture in your jurisdiction?

No specific rules apply to the treatment of intellectual property (IP) for joint ventures. Generally, the joint venture parties are free to agree on how IP rights shall be handled. On the creation of joint ventures, it is common to agree on transfers of IP rights from joint venture partners to the joint venture entity or to conclude respective licensing agreements at arm’s length.

IP rights are often created during joint venture business operations. During ongoing operations of the joint venture entity, it is common to exclude the use of the joint venture’s IP rights outside the joint venture. However, of course, the joint venture’s IP may be licensed to the joint venture partners on arm’s-length terms.

In the event of the joint venture’s termination, contractual provisions often provide for a split of the intangible assets among the joint venture parties, including allocation and future use of IP rights. IP rights are often allocated to the joint venture parties according to their respective business focus. To ensure future use of joint venture IP rights, joint venture partners may grant licences at arm’s-length terms to other joint venture partners.