Alliances at the margins: Enough is enough
Contrary to popular wisdom, longevity is not a sign of a successful alliance. The average alliance lasts less than five years, but many live long past their prime, due to general neglect or entanglements so complex that separation seems impossible. And who wants a public squabble over patent rights, or questions from upper management about what went wrong?
By Charles Roussel
Accenture
Alliance endings are often seen as catastrophic events—the final straw in a series of breakdowns. Legal agreements anticipate this scenario by making exit extremely painful. Armed to the teeth, the unhappy partners remain allied under threat of mutually assured destruction.
In fact, a graceful exit, free of recriminations and lawsuits, is proof of a strong alliance. The partners may not care much for one another, but each has received the fair value promised it. By contract or consensus, assets such as intellectual property remain with the party entitled to them. Future relations are preserved, to the benefit of their shared customers.
Having an exit strategy is the key. Of the many overlooked aspects of alliance management, planning the end of the alliance is among the most ignored. Reasons abound—raising the topic might sour the deal. It suggests lack of trust. The end of the relationship is a long time off.
Yet by avoiding the issue, you put the entire venture at risk. Small conflicts swept under the rug can turn into major headaches. If left wondering who ends up owning what, should the alliance end, partners may withhold trade secrets or customer data.
Any good exit strategy must address four issues: the events that will trigger an end; how to assess value; ownership of assets, and post-alliance links, interactions and restrictions. When the end comes, it won't bring any surprises.
To keep exit provisions front and center, include these components in your memoranda of understanding and any other published guidelines, as well as in the contracts governing the alliance (but refer to these contracts only as a last resort).
Trigger events
Earlier in this series, I discussed why it's important to plan for specific crises. As part of contingency planning, you should also consider the events that will cause the alliance to dissolve—in collaboration with your partners. Describe these events as specifically as possible, to avoid future misunderstandings.
Consider at least eight possible triggers.
Some alliances have natural completion points—for example, when a new drug moves from clinical trials to commercialization in a biotech research alliance. Common in non-equity alliances, these triggers are anticipated by all partners and can even be scheduled to occur on an exact date. Complications arise when the completion point occurs as planned, but the results don't. Hence, the second trigger—performance failure.
Many alliances dissolve when one party falls short of minimum performance requirements. Alliance contracts usually describe these requirements very precisely—a product fails to reach beta trials within a certain number of months, for example, or a venture fails to meet revenue goals by a certain date. Leading-edge alliances, including many dot.com alliances, may find performance benchmarks difficult to find, but do whatever it takes to set appropriate measures. Even rough proxies are better than no standards at all.
Success is also a trigger, such as achieving a certain market position, or a specific return on the initial investment. The success trigger is common in joint ventures where partners contribute cash or one-time licenses and want the flexibility to withdraw easily.
External shocks—what lawyers call force majeure—allow partners to stop partnering. An external shock is usually a commercial, economic, political or social event that one of the parents deems a threat to alliance viability. A multinational retailer, for example, may want to end a joint venture in China should regulations on direct investment change. Again, be very specific in describing cause and remedy.
The remaining trigger conditions—parental breach, parental deadlock, change in parental status, and parent-initiated termination—describe actions typically beyond the purview of alliance leadership. Lawyers work hard to protect parent interests. Alliances leaders must also work hard to ensure these conditions don't overwhelm the partnership. For example, if your partner's competitor buys your parent company, you need not dissolve the alliance. Given the current volume of M&A activity, this trigger would chill every alliance discussions.
Valuation methods
When a trigger event occurs, you and your partner must agree on the value of the alliance's assets before deciding how to dispose them. Consensus can be elusive, so it's smart to consider alternatives, such as an auction.
Increasingly popular, auctions allow one partner to put a price on the asset and the other partner to choose whether to buy or sell. Because the first partner doesn't know whether it will end up as buyer or the seller, it has strong incentives to set a fair price. This method works well with physical assets—property, plant and equipment—where benchmark values are readily available.
Another approach is to ask an independent assessor, typically an investment banker or neutral appraiser, to value assets. With intellectual property, independent assessment is often the only option. The alliance contract should spell out the kind of firm or individual that both parties will accept to make the assessment.
The most common approach, predetermined pricing formula, is also the most problematic. Here, partners set the value of shared assets in advance, usually calculating value using a specific multiple of assets, earnings or revenue. A good alliance will grow beyond what either party first imagined. So, for pricing formulas to work, you must continually reset them. Take, for example, a drug compound jointly developed to treat diabetes that shows promise during clinical trials as a cancer treatment. Because the original pricing formula assumed demand from the diabetes market only, a new formula is probably needed.
Future ownership models
After agreeing what assets are worth, you'll need to determine who will own them in the future. As with other elements of the exit plan, you should discuss the issue and reach consensus well before the alliance ends.
In non-equity alliances, partners often simply stop exchanging resources. Co-branding and many supplier agreements often resolve ownership in this way. Where equity is involved—especially in joint ventures, where the alliance itself owns assets—abandonment doesn't work, because it's not practical to return assets to the parent companies. By withdrawing assets, partners destroy the value they created, and assets such as know-how and intellectual property may be too commingled to withdrawal.
In these cases, it can be more sensible for one partner to buy out the other. Buy-out usually depends on specific triggers. For example, a breach of contract gives the non-breach partner right to determine whether it wants to buy or sell. Or a dramatic change in the economic climate gives each parent buy-out rights.
Finally, partners may resolve ownership by transferring their interests to a third party. This can also be very problematic, and involves contractually mandated rights of first refusal. National restrictions on foreign ownership may also prevent partners from transferring ownership.
Post-alliance ties and restrictions
The end of the alliance doesn't necessarily mean the end of the relationship. Partners can continue to exchange resources after termination. So, your exit plan should define access to assets you once shared with your partner, such as know-how, intellectual property, trademarks, trade names and raw materials.
You can make ongoing access to know-how easier by granting perpetual rights to the proprietary knowledge used to develop or deliver alliance products or services. You can structure access to intellectual property or brand equity in a similar way. Guaranteed supply contracts grant access to raw materials.
Maintaining ties may also mean imposing restrictions. For example, the party funding a research project may require the other partner to refrain from similar research efforts with competitors for a period of time. Nondisclosure agreements covering the causes and terms of the break-up are also common.
Ending an alliance is a natural part of the alliance lifecycle. Creating an exit strategy at the start of the relationship can even make it stronger, by uncovering potential disagreements that could derail the deal. Be willing to move beyond heavy-handed legal covenants and mutually assured destruction to a well-defined shared view of when enough is enough.
About the author: Charles Roussel is a partner with Accenture, formerly known as Andersen Consulting. He can be reached at charles.j.roussel@accenture.com.