Splitting Equity in an Industrial Partnership
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How Do You Share Equity or Profits (or Both) to Industrial Partners?
An industrial partnership is a relationship between two or more businesses that is very similar in nature to a joint venture. Generally, the partnership generally consists of at least one for-profit business and one non-profit business. But, it may be the case that both entities are for-profit in nature. The relationship is also characterized by one entity providing the expertise or work necessary for a project, while the other company provides the necessary resources (such as capital, land, or raw materials). A common form of industrial partnership is between for-profit corporations and non-profits dedicated to research (such as Universities). The researching organizing will conduct research that meets the non-profit purpose. It will then provide the results to that research to the for-profit organization. The for-profit organization will generally provide the resources necessary for the research. For example, the for-profit organization may provide capital to pay employees and provide access to databases or consumer information.
When two or more companies form an industrial partnership, it requires a detailed understanding of how ownership in the venture is allocated between the firms and how any profits or losses from operations will be allocated.
In this article we discuss the considerations and mechanisms for dividing profits or equity ownership between industrial partners.
The Partnership Agreement
As previously discussed, partners to an industrial partnership should have a partnership agreement in place. The partnership agreement will identify the nature of the partnership, the role that each party plays, the duties and obligations among the parties, the rights of each party, the percentage of ownership, and the distribution of profits and losses between the parties.
Allocating Profits and Losses
When negotiating the partnership agreement, determining the ownership percentage and distribution of profits and losses requires a number of considerations. Generally, the primary consideration for allocation of these interests is the value contributed to the partnership. For example, one entity may not be able to survive without the allocation of resources to its efforts or operations. The other entity may find the work done by the other entity too onerous and inefficient to be completed internally. While comparing benefits is not an exact calculation, it will affect who has a greater percentage of equity or profits rights in the venture.
An example of this scenario would be an industrial partnership between a pharmaceutical company and a research university. The pharmaceutical company may find it very difficult to get the regulatory approvals and set up the research environment necessary to conduct specific types of research. This is particularly true when the research is subject to clinical trials that require animal or human testing. The research university may have established labs, protocols, and human test candidates in place to carry out the research. The university, however, generally depends upon government or private-sector grants to conduct their research. A partnership with the pharmaceutical company may supply the financial resources necessary to carry out the research. The University highly values the research as growing the body of knowledge in the field and adding prestige to the university’s research program. The pharmaceutical company now has access to valuable research that can be commercialized or aid in the commercialization process.
The bottom line for determining the splits of equity ownership and profits revolves around who benefits more and who provides more value to achieving the desired results. This determination will be partnership specific and subject to negotiation by the parties.