Best practices in accounting for construction joint ventures￼
A joint venture is a great tool that can be used to go after bigger jobs or jobs outside your expertise. Setting one up can be complicated. This week, we’re talking about how to set one up the right way using accounting best practices.
Topics we cover include:
- The purpose of joint ventures
- Formal vs. informal joint venture agreements
- Deciding on the details of a joint venture agreement
- Why you should treat the joint venture as a separate entity
- Setting up your book for a joint venture
- When things go wrong in joint ventures
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Rob Williams, Profit Strategist | IronGateESS.com
Wade Carpenter, CPA, CGMA | CarpenterCPAs.com
Stephen Brown, Bonding Expert | McWins.com
Rob Williams: Welcome to the Contractor Success Forum! Today we’re discussing best practices in accounting for construction joint ventures. And we are the Contractor Success Forum, where we discuss financial strategies for running a more profitable, successful construction business. And we have Stephen Brown, McDaniel-Whitley Bonding & Insurance Agency. And we have Wade Carpenter, Carpenter and Company, CPAs. And I’m Rob Williams with IronGate Entrepreneurial Support Systems.
Man. Best practices in accounting for construction joint ventures. When I heard that one, I was so excited. I’ve been in so many joint ventures and I haven’t even thought about the best practices for the accounting.
We just, we just do the lawyer and the agreement and we usually change the name and don’t put enough thought into it. This, this is [00:01:00] awesome, Wade. And Stephen, what about about you guys? Is that interesting for you guys?
The purpose of joint ventures
Stephen Brown: It is, we do joint ventures all the time, and it seems folks that like joint ventures do a lot of them. And a lot of it has to do with trust. You know someone can do the work that you’re going to partner up with. And how do you verify that trust? Well, you spell out the joint venture agreement, how the books are gonna be handled and what kind of reports are going to be required to be produced and when. So usually the managing joint venture partner is in charge of providing those books to the joint venture group. And the joint venture group is made up of a committee of both companies for making decisions.
Rob Williams: And first thing, hopefully you even got something that formal. You get an expert like Wade to do that. You know, you get a lawyer also, but then on the CPA side, you get an expert like Wade and it’s so relevant because Wade, you and I just spoke to somebody. We had somebody call us from the show and that’s what we want you guys to do.
And they called us asking about joint ventures. So I guess [00:02:00] that’s probably what got this on our mind for the topic. But all these things that had not even come up or entered people’s minds when they go into a joint venture, they’re not buying stock in a company where the SEC has got all these rules.
When you’re doing a joint venture, there are so many things you got to pay attention to. So, Wade, sorry. I was so excited about it, but I want to get you, the expert at this man.
Wade Carpenter: Well, I think where you were going with this, Rob, I think is kind of like, there are many different types of joint ventures and people partnering together to get construction done. You know, Stephen, I’m sure you’re probably seeing the more formal ones, but I’ve also had a few other ones. This is kind of timely because I had a couple of them to where they’ve blown up lately.
Some of them have been formal agreements and others have been just partnering agreements and agreement to split profits at the end. And sometimes we see a lot of the problems. So, I wanted to talk through some of the things where if you will agree up front about profit split and how we’re going [00:03:00] to, you know, what if there are losses, liabilities?
I know Stephen probably would love to talk about that as well. What happens if you have warranty work, there’s a lot of different issues. And the one point I want to make about today is being clear up front about what that is.
Stephen Brown: That’s right. Who’s going to do what and, you know, think about it. You see these movie stars owning percentages of movies with these MGM and these big production companies. And how do they know they’re accurately getting that percentage when they partner up with the big movie company? Well, you see them sue them all the time because they have all these creative accounting practices and everything. And in a joint venture, you come together as a team. If it works great, you do more of them. You take the strength of someone else and you go after a project that’s perfect for the both of you.
And part of that is just clear communication upfront. Who’s doing what? I’ve got maybe 60 different joint venture agreements, depending on [00:04:00] whatever you want to accomplish. Everything from lending equipment to SBA joint venture to anything. And this joint venture is key, this agreement, to getting the bonding if this is a bonded job, that’s for sure.
Formal vs. Informal Joint Ventures
Stephen Brown: And Wade, you were saying there’s a lot of informal joint ventures going on and they may or may not have some kind of an agreement in place.
Wade Carpenter: Yeah. The big guys a lot of times it will be a dominant partner or whatever that controls everything. But there are plenty of situations where, you know, somebody has got some expertise and they need the other expertise or they need the bonding capacity.
But, sometimes putting all the pieces together is tough. And if one person controls the whole ship, one way or another, a lot of times they end up with hurt feelings. Somebody didn’t get their profit split right. Or somebody didn’t do something they should have done. And that’s why I’m wanting to talk about this today.
What to know before starting a joint venture
Stephen Brown: Sure. And on top of that, you’re joint and severally liable for actions caused by your joint venture. So making [00:05:00] sure both your insurance are naming that joint venture as an additional insured or getting a separate insurance policy for that joint venture. And then on top of that, from the joint venture standpoint, being joint and severally liable, which is in most of these joint venture agreements, means that together as a team, you are liable to see that construction project finished and you’re liable for dealing with design issues or any risk issues, under-insurance issues that the joint venture didn’t have. You’ve got to work that out together just as if it was your project. So the better you have your agreement in place beforehand, the smoother it goes.
Wade Carpenter: To back up on that a little bit, I just finished one that I was helping out in a different state. Concrete contractor, little guy, that took on this multi-million dollar project that did not have the expertise and they got the contract and then oh crap, we’ve got to figure out how to do this. And so, one of my clients kind of stepped up [00:06:00] and said, I’ll jump in and do this. But you know, the contract was in the original company’s name. So that became an issue with, how are we going to do this and took some jumping through a couple of hoops.
So that’s one of the other points I’d like to make for a day is, if you’re bidding a job together or, we see it all the time when people bid a job out of state, it’s kind of a different issue, but we bid a job out of state and then we figure out how to go get the license in that state. Or what’s involved in it. Look before you leap. That’s my only point.
Rob Williams: So if you’re bidding it together, then what, figure out whose name you need to bid it in? Or–
Wade Carpenter: Well, so, if you’re actually looking to do a formal partnership agreement, which I always recommend, definitely talk about that stuff ahead of time. Don’t just go get the job and then just informally say, we’re going to do this.
Rob Williams: Yeah. Decide these things beforehand, you know.
Wade Carpenter: And a lot of times, a joint venture agreement is, we’re going to do this for the one project and we’re done. So a lot of times we bid a job and we say, we’re [00:07:00] going to form an agreement. Well, but then we have to get the job and we don’t want to set up a separate joint venture for a job we’re not going to get.
So it’s like, Catch 22. Then we scrambled to get–
Rob Williams: Yeah. And we don’t want to do all that extra work if we don’t get it. And then we’re like, oh, we’ll just do it then. I guess if people do that a lot, maybe you’ve got a standard template, at least, with bullet points. I remember they had given me that lesson. Do not go to the lawyer’s office until you have your points bullet-pointed because it’s going to cost you a lot more. He said, get these things in a bullet point before you go, and then they can write it up. You’ll spend 80, 90% of your time just talking about–
Deciding on the details of a joint venture agreement
Stephen Brown: Well, the great thing about joint venture is, and neither partner has something that you need. You can work that out. But generally you spell out in that particular of your joint venture, you can do it a per job or an open joint venture basis. If you do an open joint venture agreement and you have a master joint venture agreement, then you’re going to have a separate [00:08:00] agreement for each job that spells out exactly what each party is going to do. What are they going to contribute?
One party might provide the oversight and management. And the other party may pretty much act as a sub just doing their specific part of the project as if they were subbing it to the other party. But what makes sense for doing the joint venture is that it allows you to take on bigger projects that you normally wouldn’t take on by yourself.
And it also helps you negotiate a better price for that job and have a better chance of getting awarded that job. Because you’re taking two different sets of a estimator putting their brains together and both their resources say, what can we do to get this job? So these joint venture partners are usually specialist in different things
Treat a joint venture as a separate entity
Wade Carpenter: That was my point of today is talking about the best practices from the standpoint of when you do have a separate entity. And the first point I want to make on that is if you’ve got a [00:09:00] separate entity, treat it like a separate entity, they should be billing the job, they should be incurring the costs, you should get the payables in the joint venture name.
And I know sometimes that gets a little hairy because maybe one sub has the supplier relationship. And sometimes that’s not possible. But to the extent possible, you want to have everything flow through the joint venture, the separate entity and not, let’s, you know, we pay the expenses and then we get reimbursed.
Then we get into well, how much documentation, how fast are we going to get it in there? Those kinds of issues where–
Stephen Brown: And they form an LLC. Or C Corp for the joint venture.
Rob Williams: Yeah, I am kind of curious what messes that creates.
Wade Carpenter: Well, I know we recently did one on the one-man band contractors and this one up in North Carolina that I was talking about just a minute ago with the concrete, he didn’t have the formal accounting in place. That was another drawback of the thing. He didn’t have the accounting in place, so he [00:10:00] was not used to turning in the documentation. And so everything got delayed and, bonding companies want to know that, they want to get their information timely. But if you can’t get the joint venture the main GC, all the parties are going to be held up while we’re waiting on joint venture books to get done because somebody doesn’t do what they’re supposed to do.
Stephen Brown: Well, the last thing you want is your side of the joint venture to not be a good experience for your joint venture or partner. That’s the last thing you want.
Rob Williams: Yeah. Because typically in our joint ventures, one of our companies would be like the subcontractor and then we would pay them out of that. But we would receive, and we always had a company that would pay, you know, out of that, but then we seemed to sub most of the work out to the contracting company that was still doing things in their name. That’s kind of confusing. So that can cause some problems then, I guess, and it, maybe it caused some problems in my past too, that I’m not aware [00:11:00] of, somebody had–
Stephen Brown: Well, your dad was right Rob. Have your points together before you go see a lawyer about doing anything. Don’t just go sit around with the lawyer and freeform and throw ideas around, tell them exactly what you want to do and what you want to accomplish. And they’ll have the right joint venture agreement for you. And talk to your bonding agent. They can help as well.
Setting up the books for a joint venture
Stephen Brown: And if you’re setting up the joint venture, Wade, how do you set up those books? And who handles the bookkeeping part of the joint venture?
Wade Carpenter: Well, that’s where a lot of times we come in. Sometimes you have one dominant partner and one smaller partner. Somebody is going to get their feelings hurt if we don’t have things spelled out. So sometimes they want a neutral third party to do the books.
But also, maybe even that dominant partner doesn’t have the accounting staff to essentially run a different company. So a lot of times it’s good to outsource that stuff. [00:12:00] But you know, when you do then, well, how are we splitting draws? One party may need some cash and one can’t draw all the cash out and then, we’d be struggling to pay bills.
Rob Williams: That’s a great point.
Wade Carpenter: There’s also, typically one of the partners is gonna throw in some money to begin with, to get things rolling. And they should have the option to get paid back first. Is there interest on that? What happens if they don’t get paid back? There’s a lot of questions around that and there should be some expectations that are set as to who gets their money back when.
Stephen Brown: You’ll love this, Rob, as a Profit First guy. Got to set up a different bank account for your joint venture.
Rob Williams: Yeah. And then we’re going to set up all the bank accounts, all
Stephen Brown: Well, in a joint venture, you have to set up a different bank account. And that’s how you find it and keep track. And then if you’re outsourcing the accounting work, say to [00:13:00] Wade, Wade would provide a year-end financial statement if it’s a long running project. But they provide quarterly reports because the managing joint venturer has to keep track of the job costs. And it’s their job to make sure that the paper’s flowing properly.
Wade Carpenter: I’ve done so many of these that it’s, you know, You see these problems all the time. And right now I’ve got one that, you know, they’re fighting over the profit split because it was just said, well, okay, we’re going to split it 60, 40, or 50 50, whatever it is. But one of them didn’t turn in all the documentation.
Stephen Brown: More work than the other.
Wade Carpenter: Right. Or, they didn’t document. In one case I I’m talking about it’s pretty obvious that somebody has kind of been padding their bills, but they don’t have any backup for it. So that was the other piece of this is that you have to agree on the documentation and the timeliness of how bills are going to be done, how fast [00:14:00] accounting is going to be done.
And, you know, you should be getting regular reports on these things, because just like any other construction project, you need a P and L and a balance sheet on this separate joint venture. And I don’t mean to keep going on…
Rob Williams: No, I want you to keep going on. This is great.
Profit and Loss Splits in Joint Ventures
Wade Carpenter: We already kind of alluded to it. I think Stephen said it, but, for profits and loss splits, just because someone puts more money in or one’s bigger or whatever, profit does not have to be split a certain way. And losses don’t necessarily have to be split in the same way that profits are. If there’s liabilities at the end, there are, typically what Stephen was talking about jointly and severally liable. But a lot of times there are clauses in the joint venture agreement that talks about what happens if we’re upside-down.
When things go wrong in a joint venture
Stephen Brown: Yeah, you lose money, do you still spread it evenly?
Rob Williams: It depends on the agreement. And a lot of times there are limited partnerships. That’s why they’re called limited partnerships. I don’t know for the bonding, Stephen, y’all may have different [00:15:00] requirements, but most of mine have not been bonded. So we had different agreements and usually we had the liability separated. And it’d be good if you can have the banks agree to have the loans separated, the percents, but they, they don’t usually want to do that. They usually want everybody on the hook for everything.
Stephen Brown: Both partners are responsible for seeing that the project is completed, whether it makes money or loses money, just like any other construction project.
Rob Williams: Yeah, well, that may be on the bonding thing. I was talking about loans and stuff. Or yeah. Liability. Yeah. What happens if they come after you? That’s a great point.
Wade Carpenter: Got another one that I was just thinking about from last year that, it was a jail job and things were botched on it. And they were upside down and people are suing people over these things. And, you want to believe a lot of times you bring a joint venture together to get expertise. And it probably does increase your chances of [00:16:00] success, partnering with the right person, but losses do happen.
Stephen Brown: Right. And there’s a dispute mediation clause in most of these joint venture agreements. I was just reading one while we were talking. And it was saying basically if you can’t get it resolved in person, then you would choose a mediator that you both agree upon. And this doesn’t have to go through the court systems. It could, if it was really ugly, if nobody agreed to a mediator. But that’s the whole reason you have a dispute resolution in your joint venture agreement, work it out without going to court. It’s always going to cost you more.
Rob Williams: It’s kind of interesting you say that Stephen, in this economy, things have been booming. My floor in my building is just filled up with lawyers and a mediator just moved in across the hall. And these guys are just constantly, man. There are people in and out of here constantly.
Stephen Brown: Yeah. Call Rob, and he’ll find you someone right there.
Rob Williams: I don’t, I don’t think I want them on this floor. It makes me a [00:17:00] little nervous.
Stephen Brown: Anything about controlling risk. You want to control your books. First of all, some party’s got to do the billing. That’s usually the managing joint venturer. And then the managing joint venturer has, is in charge of all the tax keeping. They’re in charge of actually shutting down the joint venture if you formed a legal entity.
Rob Williams: Yeah. Well, you’re saying that, I don’t know if that’s always true.
Stephen Brown: It’s not, but in this situation, it spells out, who’s in charge of what. And you get paid for that. If you’re going to be the managing joint venture, you get paid for that.
Rob Williams: Well, it’s interesting you say that. We were almost never paid for those. You’re saying you should get paid. I think all those things let’s put should in front of Stephen, because we’re out there throwing these things together, we almost never put–
Stephen Brown: –crazy amount. It’s just spelled out in the joint venture agreement of exactly how much you’re going to get paid for doing that work.
Rob Williams: Yeah, we didn’t [00:18:00] use your lawyer. We should have used your lawyer.
Stephen Brown: Okay, my bad, my bad. So some of these joint ventures can be ugly and some of them get ugly. Some of them can be wonderful. We’ve been extolling, the things that people like about joint ventures. It may not be a good fit to do a joint venture. But from my standpoint, as a bonding agent, It really quadruples your bonding capacity because you got a partner sharing in the risk.
Rob Williams: Is kind of interesting. So go back and listen to this episode and what Stephen is seeing is the way you should do it. That’s the bonding thing.
Stephen Brown: We probably won’t bond you unless you do it that way.
Rob Williams: Yeah. Yeah. So, well, and I guess the reason is most of our jobs weren’t bonded.
Wade Carpenter: Yeah. I think probably, the ones that are bonded, they’d probably do it a little better than the next guy. But I was going to bring up things like, you wouldn’t think you would have to worry about borrowing money in the joint venture name or buying equipment.
But I had [00:19:00] one where a joint venture partner went and borrowed money–
Stephen Brown: In the name of the joint venture?
Wade Carpenter: The name of the joint venture. And they had the right to do it. And obviously that came up with hurt feelings, had another one in the last two years, they were buying equipment with the reasoning that, hey, it’s cheaper to then renting it for the life of this project, but who keeps it at the end?
Rob Williams: That’s come up a bunch of times for me.
Stephen Brown: Yes, I think hurt feelings is a great way to describe it. It’s a beginning of every time bomb. Hurt feelings.
Wade Carpenter: And again, I don’t mean to point– cause joint ventures can be a great thing. But I’m not trying to point out all the negatives here, but you know, we have other issues, like when I was going back to who pays for the payables and stuff like that. I’ve had situations where the joint venture pays the contractor that paid the payables. Or they were given money to cover paying the payables. But that contractor took [00:20:00] that money and paid his personal bills with it or the company’s bills with it. And we ended up with leins at the end. And the other partner didn’t know it. So again, I know I’m probably sounding negative, but.
Rob Williams: No, you’re sounding reality. I see the two pictures of you as I’m doing this. And it’s Wade’s the little, the bad devil of all the bad things and–
Wade Carpenter: Well, I’m seeing the good and the bad.
Rob Williams: Stephen’s stuff of ideally how you should do it and Wade’s the real world over–
Stephen Brown: Any contractors can contact our forum, and Rob, you’ll tell about that a little bit later, ask us questions or just call BS on us. Hey guys, y’all missed this. You missed that. We’re just throwing out ideas from our perspective and when they’re ugly, they’re ugly. And when they’re good, they’re good. But the whole key to not making them ugly is clear communication.
And am I getting in a good agreement? And they’re not hard to do. There are template forms. There are so many of them for exactly what you want to [00:21:00] accomplish. Guys, if you do a joint venture, contact me. I’ll find a form for you.
Rob Williams: Actually I did. That’s true, Stephen. Going through the bonding process forced me to be so much more organized. I couldn’t take shortcuts and just say, we’ll do it later.
So, but back to Wade! I want to get the rest of your points.
Wade Carpenter: Well, I don’t know that we have a lot of time left but I think we hit a lot of the big points. Going back to what Stephen said, yeah, there are templates out there. But I’m going to say you shouldn’t always use the template. A lot of times you’ll take a template from one place, but–
Rob Williams: Oh, yeah. Read it. Make sure–
Wade Carpenter: Well, Get some professional advice on that.
One situation, one template may not be the same. I could tell you many stories about like crossing state lines. Maybe you got a template that works in Tennessee, but you know, Mississippi
Stephen Brown: They’re just generic, Wade.
Wade Carpenter: I know, it’s a good starting point. There’s a lot of good things in there.
Get professional help with your joint venture agreement
Wade Carpenter: Yeah. But even if you’ve [00:22:00] got a formal agreement, exactly what Stephen said, be clear. Even if you’re doing an informal have, have a written one pager, even if it’s one page. Some kind of like agreement. Again, don’t be afraid to get professional help, and I know this sounds self-serving, but you know, the accounting is very critical. And don’t be afraid to get professional help from a lawyer or an accountant on these things. So I guess that’s my wrap-up points.
Stephen Brown: Those are the best practices for accounting for joint ventures. That’s for sure.
Rob Williams: Yeah, maybe we can write something in the show notes. We can have a little list, the best practices for accounting construction joint ventures.
Stephen Brown: And to quote your dad, Rob, put your points together, what you want to talk to your lawyer about. Because that meter is running like a taxi. A lot of people don’t remember what taxis are anymore, but the meter is running when you’re talking. You can talk about the weather or anything, and they’re your best friend, but that meter is running. So [00:23:00] put your bullet points together, go in there and get a good joint venture agreement put together so you don’t get your feelings hurt. Right, Wade?
Wade Carpenter: Absolutely. I think you said it best.
Stephen Brown: Your dad, your dad did.
Rob Williams: That’s great. I have a relative that’s a lawyer that I was trying to get a client in there and I said, he really doesn’t want to pay much. How can we do that? And he said, well, talk through all the points with him before you go. Because 90 something percent of my bill is what he was telling me is talking and explaining the points to write up the document.
I just give it to my assistant and take these points. That’s like less than 10% of my bill. 90% is explaining what we’re doing and asking questions to figure out what they’re going to put in the document. Writing the document up is, is like a whole decimal point over. you know,
All right. On the Contractor Success Forum, we’re just having too much fun here talking about joint ventures. It’s always fun at the Contractor Success Forum. So go to the show notes, [00:24:00] look at them and listen to
Stephen Brown: Contact us, if you want to talk.
Rob Williams: Oh, yeah. Contact us if you want to talk. Alright, see ya. Bye.