Real Estate Investments remain an attractive investment opportunity due to the relatively high returns as compared to the more traditional investment opportunities like equities (shares) and fixed income (bonds). In Kenya, the growth of the middle class has led to increased demand for quality and aspirational real estate. The response to this has been the gradual institutionalization of Real Estate in Kenya making joint ventures popular, as not only do joint ventures play a significant role in bringing down the cost of funding together with the benefit of operational efficiencies; but they also create a revenue upside through more productive use of assets. This is because funds which would first have been used to purchase land can be directly deployed into the development of that land.
What is a Joint Venture?
A joint venture is essentially a partnership, entered into by two or more parties each of whom brings something unique to the table, with the aim of combining resources to achieve a specific objective. In real estate, a joint venture is at its most basic symbiotic, having a landowner with land but no access to funds and/or development capability and on the other hand, a financier with funds looking to deliver the best possible returns to their investors but with no land. These two players have something that the other needs and they could decide to work together combine in a mutually beneficial arrangement.
What are the key features of a joint venture?
A joint venture (JV) can either be contractual or corporate. The difference between the two is that in a contractual JV, parties agree to work together and document their working relationship while in a corporate JV the parties come together to form a corporate entity which could be in the form of a Company or a Limited Liability Partnership, to pursue their common interest. In most real estate JVs parties prefer a corporate JV as it allows the land to be held in a special purpose vehicle where the JV partners are also shareholders. Key features to consider when pursuing a JV and particularly a corporate JV includes:
- The name of the corporate entity,
- The governance structure i.e. role of the members who shall play an active role in managing the day to day operations of the development such as who will fundraise and who will be in charge of sales, how the JV will raise funds, the scope of the business to be conducted and fundamental principles of how the JV will be managed e.g. how often should the members receive reports or which matters are reserved for a decision of the members,
- The contributions that the parties will be making to the relationship and the expected profit sharing formula.
- Other features include; exit mechanisms in case a party wants to exit, dispute resolution methods, and remedies of parties in case the other party defaults on their obligations.
What are the benefits of a Joint Venture in real estate?
Joint Ventures are great avenues for combining scarce resources in a manner most beneficial to the parties without either party having to forgo the opportunity to exploit the resources they have at hand.
A party may also explore a joint venture to benefit from tapping the local market through collaboration, where local laws restrict certain foreign investments by partnering with a partner who knows how the local environment works and is not subject to restrictions in the jurisdiction. A joint venture can also be an avenue for a company or individual to diversify their investments and benefit from the expertise of the other partner. For instance, a party may not want to fully venture into real estate and may elect to invest through partnering with a developer who is experienced in the real estate market and can drive marketing and sales and is aware of the market trends in the real estate sector.
A joint venture will also see the parties share in the risk of the venture in the sense that each party bears the risk attaching to the resource they contribute. In real estate, the landowner will bear the risk relating to maximization of land use and development while the developer will bear the financing risk such as profitability and returns expected from the venture.
Other benefits include leveraging on development, ability to maximize on fund-raising opportunities for the development and depending on what the terms of engagement are, a landowner can get partial liquidity without having to sell the entire land.
Are there any drawbacks with joint ventures?
Just like a coin has two sides, there are also drawbacks that joint ventures are susceptible to. The most obvious one would be the misalignment of purposes. Like any relationship between two parties, the partners in joint venture need to know and be clear from the beginning about the purpose for which they are getting into the venture. This will ensure that disagreements, later on, do not extinguish their main objective and they adopt a stance of getting solutions to challenges that the venture encounters. Common challenges likely to be faced by parties to a joint venture will include clash of cultures and personalities and one party may not feel as involved or included in the execution of the purpose. There may also exist a blur in scope of liability of the parties involved in case of the failure of the venture.
How can JV partners prevent potential setbacks?
Most often than not such issues discussed above arise from poor governance or lack thereof in JVs and it is for this reason that the JV Agreement has to be well negotiated and drafted providing for decision making, reporting and disclosure requirements whilst at all times ensuring transparency.
To mitigate some of these potential problem areas even before signing of the JV Agreement, one should take the time to identify a suitable JV partner. One ought to consider such matters as credibility of the potential partner, their track record, standards of professionalism, governance practices and standing where they are a corporate entity among other considerations.
Are Joint Ventures the future of real estate?
The future of Real Estate lies in collaborations in the form of joint ventures. The Real Estate sector as is in Kenya has not satisfied the housing needs of the country and there is still a huge housing deficit to be taken care of. Among the key pillars of the Jubilee Government in its second term through the Big Four Agenda is ensuring that more housing units are put up to ensure more Kenyans own homes. Towards this end, we have seen private-public partnership projects being launched between the government and private developers. Even though this is a trend in the public sector, the trend is most likely to take root in the private sector through joint ventures. One may not be mistaken to observe that the time is ripe for joint ventures in the real estate sector in Kenya.