Of Russian Roulettes And Shoot Outs – Exit Strategies And Deadlock Resolution

“Let’s agree to disagree” – goes a common saying, when two negotiating parties are unable to agree on the other’s point of view. The parties may however continue with other regular discussions or business. 

In certain cases like a joint venture (JV), a stalemate or lack of consensus may have severe repercussions if either party is not willing to look beyond one or more disagreements.  

JV agreements and shareholder agreements include provisions for joint decision making by the JV partners/ shareholders in order to grow and build the business of the JV. The JV partners also contribute differently to the growth of the business, i.e. while one JV partner may have the technical know-how and intellectual property required for the business, the other JV partner may have the skill set and knowledge required for the growth of the local target market. The JV partners therefore intend to make the most out of the JV so that they will together achieve the benefit of a successful venture. 

Given their respective strengths and contributions, the JV partners also typically agree upon a set of matters (commonly referred to as ‘reserved matters’ or ‘affirmative matters’) that will require each of their consent before the JV entity can act on it. Such matters could include permitted borrowing of the JV entity, jurisdiction/ target market for the business, approval of material contracts or litigation, and exit options. The reason for such a provision is that since both JV partners are invested in the JV entity, any decision or indecision may affect not only their business interest but also their financial interest.  

As an example, there could be a situation where a key proposal, i.e. new target market for the JV entity or an ancillary/ related business proposition seems quite interesting to one JV partner. In such a case if the other JV partner is not convinced with the risk-reward proposition that the new proposal offers, the matter cannot be proceeded with, and parties reach a deadlock or an impasse.  

This poses a concern since it directly affects the business potential. This is why JV agreements have provisions to resolve such a deadlock. The usual dispute resolution provisions may not strictly apply in such a case since no party has committed a breach and each partner is only exercising their contractual rights.  

Deadlock resolution mechanisms ensure that there is a finality to the impasse. A couple of common deadlock resolution mechanisms are the Russian roulette and shoot out.  

Under the Russian roulette process, each JV partner would have the right to make an offer quoting a price at which it is willing to purchase all the shares held by the other JV partner. The receiving partner will consider the offer and will opt either to sell its shares or buy the other JV partner’s shares. Given that the option to buy or sell is with the receiving JV partner, the offering JV partner would ideally make an offer at the fair market value of the shares since it should be willing to purchase or sell at the same price per share.  

Under the shoot-out mechanism, each of the parties can make a simultaneous offer to the other to buy all the shares. Where offers are made simultaneously, the party making the higher offer will prevail and the party that made the lower offer will be obliged to sell all its shares at such price. 

There are several variations to the above, and it would depend on how the parties come to a final understanding on the manner to resolve a deadlock having regard to their respective strengths and weaknesses. 

It is important to have deadlock resolution provisions so that business is not affected, and only one JV partner would have to exit the JV. Absent such provisions, parties will have to resort to dispute resolution provisions, which may not strictly apply. Even arbitrators may find it challenging to pass an award directing one party to purchase from the other. Liquidation of the JV entity or sale of the assets/ business may not be the right solution either, since there may be value loss and both parties may receive considerably less value than an exit mechanism would provide under which one of the JV partners is willing to continue the business, and therefore inclined to offer a higher price than a third party.  

A robust deadlock resolution mechanism and exit strategies ensure that parties bear these provisions in mind while conducting themselves as shareholders/ partners, and act responsibly in the interest of the JV entity as well as their own.  

Should a deadlock occur despite this, deadlock resolution steps as contractually agreed can be followed or appropriate enforcement sought to give effect to the same.