New venture firms, international expansion, and the liabilities of joint venture relationships

Journal of High Technology Management Research 12 (2001) 295 – 321

New venture firms, international expansion, and the liabilities of joint venture relationships Lloyd Steier* School of Business, University of Alberta, Edmonton, AB, Canada T6G 2R6 Received 15 June 2000; received in revised form 6 February 2001; accepted 2 April 2001

Abstract New venture firms often rely on joint ventures (JVs) as a means to expand internationally. This study adopted a ‘‘relational view’’ of competitive advantage and focused on the management and organization of an international joint venture (IJV) from its initiation until dissolution. The findings of this longitudinal case study clarify some of the reasons why, from the perspective of a new venture, these relationships may become unstable. Theoretical propositions are presented relative to the liabilities that these firms encounter when engaging in IJV relationships. D 2001 Elsevier Science Inc. All rights reserved. Keywords: International joint venture; New venture; Liabilities

1. Introduction Entrepreneurial firm performance is often linked to the network of relationships a firm is able to establish and manage over time (Burt, 1992; Dubini & Aldrich, 1991; Larson, 1992; Powell, 1990). From a strategy perspective, success of the firm depends not only on positioning within an industry environment and internal resources capabilities, but also on the types of alliances and the nature of relationships it is able to establish with other firms (Parkhe, 1991; Spekman, Forbes, Isabella, & Macavoy, 1998). Indeed, some of a firm’s most critical resources ‘‘may span firm boundaries and may be embedded in interfirm routines and processes’’ (Dyer & Singh, 1998). Within the past decade, we have witnessed an ‘‘explosion’’

* Tel.: +1-780-492-5176; fax: +1-780-492-2519. E-mail address: [email protected] (L. Steier). 1047-8310/01/$ – see front matter D 2001 Elsevier Science Inc. All rights reserved. PII: S 1 0 4 7 - 8 3 1 0 ( 0 1 ) 0 0 0 4 1 - 4

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in alliances (Dyer & Singh, 1998; Hite, 1998; Spekman et al., 1998). Accordingly, relationships between pairs of firms are receiving increased theoretical and research attention. These ‘‘dyadic relationships’’ have emerged as an ‘‘important unit of analysis’’ deserving more study (Dyer & Singh, 1998, p. 661). Alliances having international dimensions have become particularly ubiquitous (Contractor & Lorange, 1988; Parkhe, 1991, p. 579). International joint ventures (IJVs) represent a particular type of alliance relationship that is also being formed in increasing numbers (Inkpen & Crossan, 1995). From a new venture perspective, developments such as ‘‘low-cost communication technology and transportation’’ have enabled firms ‘‘with limited resources to compete successfully in the international arena’’ (Oviatt & McDougall, 1994, p. 45). Emerging high tech firms, in particular, tend to rely on international alliances as sources of needed resources (Coombs & Deeds, 2000). Existing research on multinational enterprise and alliances has tended to focus ‘‘on large, mature corporations’’ (Oviatt & McDougall, 1994, p. 45), largely ignoring the important new phenomenon of new ventures that have gone international. Indeed new, small ventures are internationalizing at an accelerated pace. Some are even described as ‘‘born global’’ (Shrader, Oviatt, & McDougall, 2000). Against expectations, these firms have emerged to become ‘‘active’’ international players (Kohn, 1997, p. 45) and have assumed an important role in the global economy (Acs, Morck, Shaver, & Yeung, 1997; Acs & Preston, 1997). A key success factor for most entrepreneurs is building ‘‘network exchange structures with outsiders that are identified as critical resource suppliers, ones that can stabilize the new firm as a player in targeted markets’’ (Dubini & Aldrich, 1991; Larson, 1992, p. 100). The trend towards globalization suggests that, increasingly for many new ventures, critical resources are located cross-border. For the entrepreneurial firm, it is of paramount importance to build and maintain relationships that will provide the resources necessary for survival and growth. For high-growth entrepreneurial firms, network forms of governance present attractive alternatives to vertical integration (Larson, 1992; Powell, 1990). An unprecedented growth in entrepreneurial activity at the international level, and the accompanying ‘‘explosion’’ in alliance relationships, presents a number of challenges to managerial practice and theory development. While the determinants of success or failure of the firm within international contexts have emerged as a fundamental issue in strategy (Rumelt, Schendel, & Teece, 1994), we know relatively little about its cooperative aspects (Contractor & Lorange, 1988, p. 3), and ‘‘theoretical frameworks are still lacking in the literature’’ (Park, 1996, p. 796; Parkhe, 1993a, 1993b). While a firm entering ‘‘a foreign market for the first time is likely to use a joint venture’’ (JV) (Inkpen & Beamish, 1997, p. 178), this form of alliance represents a complex cooperative arrangement (Contractor & Lorange, 1988; Harrigan, 1985; Osborn & Hagedoorn, 1997; Park, 1996, p. 796; Parkhe, 1993a, 1993b) that is poorly understood. Albeit a popular means of organizing economic exchange, JVs are ‘‘risky and highly unstable’’ (Blodgett, 1992; Park & Ungson, 1997, p. 279; Parkhe, 1993a) and have a high dissolution rate (Dyer & Singh, 1998; Hite, 1998; Spekman et al., 1998). The instability of IJVs as an organizational form has been well documented, however ‘‘the underlying reasons for the instability need clarification’’ (Inkpen & Beamish, 1997, p. 177). Particularly needed are longitudinal studies that examine the dynamic evolution of IJVs (Parkhe, 1991, 1993b).

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An IJV, within the context of a new high tech firm, represents the focus of the present study. More specifically, the study focuses on the dyadic relationship between two partners and seeks understanding of the pattern and process through which an IJV was managed and organized from its initiation to dissolution, and seeks to clarify the reasons for the instability of JVs. It is based on the longitudinal study of a firm founded in 1987. The firm was founded with the intent of developing and selling a high tech electronic probe — along with associated software — for use in the oil industry worldwide. Data were collected between 1990 and 1998 as part of a larger study on the process of new firm creation and network development. As the firm was just 4 years old when the JV was founded it fit previously used definitions of new ventures as firms 6 years old or younger (Brush, 1995; Zahra, Ireland, & Hitt, 2000). In 1991, the firm initiated a relationship that evolved into an IJV. The JV subsequently failed and international arbitration proceedings soon followed. The longitudinal nature of the study provided an opportunity to study an IJV, from its inception to dissolution, as it naturally occurred. Thus, the researcher was ‘‘close to the action’’ throughout the life of an IJV. The fact that the IJV involved international arbitration provided at least two additional benefits for conducting the research: first, it spawned much reflection among key personnel of the domestic firm regarding the organization and benefits of an IJV; second, it required both firms to formally articulate, through legal briefs and witness statements, pertinent aspects regarding the organization and management of the IJV. The findings clarify some of the reasons why, from the perspective of a new venture, IJV relationships may become unstable. It suggests that the IJV relationship is layered with ‘‘liabilities.’’ These liabilities include a compounded liability of newness, ‘‘hyperoptimistic’’ imperialism, ‘‘multiparty’’ governance, smallness, opportunism, coordination and control, and cultural distance. The remainder of this article contains five sections. First, a conceptual framework is further established, followed by a description of the methodology, a presentation of the case material, discussion, and conclusions.

2. Conceptual framework In examining the dyadic relationship between a domestic firm and a foreign firm involved in an IJV this article subscribes to a ‘‘relational view’’ (Dyer & Singh, 1998; Grabher, 1993, p. 5) of transactions wherein new organizations are created by entrepreneurs ‘‘embedded’’ (Granovetter, 1992) in a series of network relationships (Steier & Greenwood, 2000). Entrepreneurs (Dubini & Aldrich, 1991, p. 305), in an attempt to mobilize resources necessary for firm creation and growth, create a network of ‘‘patterned relationships between individuals, groups, and organizations.’’ IJVs represent a particular formal type of alliance that has become ‘‘a powerful force shaping firms’ global strategies’’ (Park & Ungson, 1997, p. 279). IJVs represent a way of organizing economic exchange that has ‘‘become a prevalent mode of entry into global markets’’ (Barkema, Shenkar, Vermeulen, & Bell, 1997, p. 26; Harrigan, 1985) and they are being formed ‘‘in increasing numbers’’ (Inkpen & Crossan, 1995, p. 595). The objectives of JVs include ‘‘the reduction of risk, economies of scale, access to technology and markets, and

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the search for legitimacy’’ (ibid., p. 596). Despite their benefits, alliances having international dimensions represent an ‘‘inherently unstable organizational form’’ (Inkpen & Beamish, 1997, p. 177; Porter, 1990). Entrepreneurs face a series of decisions regarding which functions they should perform in-house and which functions can be effectively contracted out. These decisions are often characterized in simplistic ‘‘make’’ or ‘‘buy’’ terms and sometimes ‘‘mask’’ the complexity of a firm’s choices and activities relative to economic transactions (Harrigan, 1985, p. 914). Between these extremes exists a choice of ‘‘network exchange structures’’ (Larson, 1992) also sometimes referred to as ‘‘hybrid’’ forms of governance (ibid.; Williamson, 1991). For entrepreneurial firms, these arrangements (Larson, 1992, p. 78) provide: a critical leveraging opportunity whereby resources can be gained and competitive advantage realized without incurring the capital investments of vertical integration. Most entrepreneurial companies are not in a sufficiently strong financial position to contemplate the acquisition of critical functions within a single hierarchy, nor would such a strategy necessarily fit with the product/service focus that defines their business.

Building on the work of Coase (1937), Williamson (1975) articulated two fundamental forms of economic organization: market and hierarchy. Bradach and Eccles (1989, p. 97) add that a ‘‘myriad of organizational forms exist along with market and hierarchy.’’ In reiterating that transactions are rarely governed by the single forms of market and hierarchy, Bradach and Eccles (p. 97) emphasize that these mechanisms ‘‘serve as the building blocks for complex social structures so common in organizational life.’’ Williamson (1991) also later described the third generic form of economic organization as a ‘‘hybrid’’ presenting it as an ‘‘intermediate’’ form of governance. Hybrid arrangements have recently become ‘‘highly significant features of the contemporary organizational landscape’’ (Powell, 1987, p. 68). Larson (1992, p. 76) defines them thus: ‘‘Hybrids combine aspects of market transactions and characteristics of hierarchies and fall between the two alternatives on a continuum.’’ Bradach and Eccles (1989) cite a growing body of literature, which suggests that relational contracting based on trust is an important governance mechanism. Bradach and Eccles (p. 116) further suggest that the major models of governance — market, hierarchy, and relational contracting based on trust — are not mutually exclusive and are often ‘‘combined with each other in assorted ways in the empirical world.’’ Bradach and Eccles describe this combination as a ‘‘plural form’’ of governance. Similarly, Ring and Van De Ven (1992, p. 3) include trust as a significant mode of governance, along with market and hierarchy, which is particularly useful in cases of ‘‘repeated transactions of highly idiosyncratic assets under conditions of uncertainty, and small numbers bargaining . . ..’’ Ring and Van De Ven view a combination of risk associated with the venture and the nature of the trust between the parties as being key determinants of whether market, hierarchical, or relational contracts based on trust are used. In other words, each form of governance has its own basis of co-operation. Markets largely rely on self-interest, hierarchies rely on coercion, and relational contracting relies on trust. Fig. 1 depicts three basic forms of governance and their basis of co-operation.

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Fig. 1. Forms of governance and their basis of co-operation.

There exists a growing interest in the role of trust as a mechanism governing economic transactions and organization (Bradach & Eccles, 1989; Mayer, Davis, & Schoorman, 1995; Ring & Van De Ven, 1992) and it represents a core concept relative to the development of IJV theory (Parkhe, 1993b, p. 229). Trust reduces the transaction costs associated with exchange because it reduces monitoring costs while at the same time providing safeguards against opportunistic behavior. Mayer et al. (1995, p. 712) provide a useful working definition of trust: ‘‘the willingness of a party to be vulnerable to the actions of another party based on the expectation that the other will perform a particular action important to the trustor, irrespective of the ability to monitor or control that other party.’’ Trust is embedded in social relationships (Granovetter, 1985) and is usually generated over time. ‘‘Embedded social relationships’’ (Fiet, 1995, p. 197), ‘‘personal trust’’ (Williamson, 1993), or ‘‘habitualization’’ (Nooteboom, Berger, & Nooderhaven, 1997) can substitute for Williamson’s more formalized governance arrangements. Strategic alliances present unique agency problems because information asymmetry is inherent in these relationships and parties have many opportunities to take advantage of one another (Parkhe, 1991, 1993a, 1993b). Alliance relationships contain an element of ‘‘relational risk.’’ According to Nooteboom et al. (1997, p. 332), ‘‘firms may be well advised to employ more sophistication in their assessment of relational risk.’’ Each form of governance must address the problem of a party’s tendency to behave opportunistically. Relational contracting is particularly prone to opportunistic behavior and relies on a strong element of trust as the basis for co-operation. When trust is embedded in the relationship, opportunistic behavior is unlikely to occur because each partner will forego short-term gains in favor of the interests of the partnership. Bradach and Eccles (1989) suggest that, for trust to be meaningful, there must be a risk of ‘‘opportunistic’’ behavior. From a survival perspective, new ventures face a unique set of challenges within the strategic arena. Stinchcombe (1965, p. 148), for example, observed that: ‘‘a higher proportion of new organizations fail than old’’ and labeled this propensity the ‘‘liability of newness.’’ Stinchcombe further identified four dimensions to the liability of newness. First, organizational actors have to learn new roles. Second, new roles and routines have to be invented. Third, new organizations must rely heavily on social relations among strangers and these relationships are much more precarious than the established relationships found in older organizations. Fourth, older organizations have established a set of stable ties with users of their services and the stronger the tie between existing organizations and the people they serve, the greater the degree of difficulty for new organizations to gain legitimacy with new customers.

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Numerous studies have validated the liabilities of newness hypothesis (Delacroix & Carroll, 1983; Freeman, Carroll, & Hannan, 1983; Hannan & Freeman, 1989; Singh, Tucker, & House, 1986). While the basic tenet of this hypothesis (new organizations tend to fail) continues to be supported, research has suggested an additional dimension: the liabilities of smallness. According to this hypothesis new organizations tend to be small and it is not just their age but also their size that contributes to their high failure rate (Aldrich & Auster, 1986; Bruderl & Schussler, 1990; Hannan & Freeman, 1984). Thus, many firms fail not so much because they are new, but because they are small and subsequently lack sufficient resources to overcome adversity. Indeed, Baum (1996) suggests that some of the early studies confirming the liability of newness hypothesis did not adequately control for the age effect and the liabilities of newness and smallness are sometimes confounded. In summary, new venture success often depends on the nature of relationships a firm is able to establish and maintain with other firms. JV relationships represent an attractive means for new firms to be ‘‘players’’ in the international arena. This form of governance relies a good deal on trust as a basis for co-operation. New firm creation is ‘‘risky business’’ (Aldrich & Fiol, 1994; Stinchcombe, 1965). By definition, a JV involves the creation of a third organizational entity. This new organization may also be subject to the liabilities of newness. Additionally, alliances have a high failure rate. Thus a new venture that embarks on a JV may be compounding its propensity for failure. More research is needed on this intriguing organizational arrangement.

3. Methods The present study is a longitudinal examination of a new venture’s involvement in an IJV relationship from its initiation to dissolution. Observing Parkhe’s (1993b, p. 228) claim that the areas of international management and IJVs were at a ‘‘preparadigmatic’’ stage of development, it subscribed to his recommendation for ‘‘a near-term shift to inductive/theory generating/idiographic research . . . that is particularly well suited for the current stage of evolution of IJV research.’’ Parkhe argued that, in order to move IJV theory past its current evolutionary stage, researchers needed to begin with a program of exploratory research, followed by descriptive, and finally explanatory research. The method selected here was exploratory, following Parkhe’s recommendation for a single case study, because it permitted the researcher ‘‘to ‘get close to the action’ of the formation, structuring, and stability of IJVs . . .’’ (p. 248). More recently, Godfrey and Gregerson (1999) advocated longitudinal case studies as a ‘‘clear way forward’’ for those who study high technology firms. Similarly, Aldrich (1999, p. 1) makes a compelling case for more longitudinal studies that focus on the new venture and the ‘‘absolute minute of their creation.’’ A case study represents a research strategy ‘‘which focuses on understanding the dynamics present within single settings’’ (Eisenhardt, 1989, p. 534). Case research is particularly useful at the early stages of theory development, as is the current situation with IJVs (Kogut, 1988; Parkhe, 1993b) where key themes and categories have yet to be empirically isolated. As Pettigrew (1985, p. 242) notes: ‘‘single case studies are capable of developing and refining

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generalizable concepts and frames of reference . . ..’’ Or, as Mintzberg (1979, p. 240) suggests: ‘‘we learn how birds fly by studying them one at a time, not by scanning flocks of them on radar screens.’’ The study followed procedures commonly recommended for conducting case study research (Eisenhardt, 1989; Miles & Huberman, 1984; Mintzberg, 1979; Parkhe, 1993b; Steier & Greenwood, 1995; Yin, 1984); most notably, within each step there was constant iteration and overlap between concepts, data collection, and the literature. The project did not begin as a study of JVs. Initially, the firm was approached in early 1990 as part of a larger study on new firm creation and network development. At that time, the firm was just over two years old and had just begun to sell its first product. In 1991, the firm initiated a relationship that evolved into an IJV. It soon became clear that this was a relationship of critical importance. The focus of the research was shifted to include this important development. The firm was visited on a regular basis until early 1998. The procedure permitted examination of the growth of the firm, and its involvement in an important JV, in real time. The firm was visited four or more times annually, initially to interview the founding principals, and, later, as the firm grew, to interview senior management. All of the managers directly involved in the management of the JV were interviewed. (No attempt was made to contact people outside the domestic organization. Issues of distance and accessibility made it impractical to interview the foreign partner. However, documents surrounding the international arbitration proceedings eventually provided a useful account of both venture partners’ perspectives.) In all, 32 formal research interviews were conducted, each of approximately two hours in duration. Additional 16 interviews of a less formal nature were conducted with key management personnel. The less formal interviews were typically 1-hour long and used to clarify or enrich points previously raised. Interviews were taped and transcribed. The method adopted allowed the interviewee to recount events in a chronological manner, probing where necessary to clarify significant events and players. The central concern was to obtain a story of how the JV evolved. Informed by a set of concepts relevant to new firms and JVs (i.e., those outlined above), the central logic was to understand the management and organization of the venture as it evolved. Questions were thus loosely framed and nondirective. Interviews can be subject to ‘‘problems of bias, poor recall, and inaccurate articulation’’ (Parkhe, 1993b; Yin, 1984). In order to overcome these problems, researchers commonly ‘‘test for convergence’’ by accessing multiple data sources. The present study followed this precept. The validity of the accounts was assessed in three ways. First, wherever possible, documents such as quarterly reports to shareholders and business plans were consulted. Activities surrounding the international arbitration proceedings also proved to be a rich source of data. These data included complete copies of all correspondence between the two partners relevant to the JV, complete copies of three ‘‘iterations’’ of the JV agreement, all legal briefs prepared by the law firms involved in the case, and all of the written witness statement submissions provided by each partner. Second, summaries of the data were prepared and submitted to the two founders and a third member of the management team in 1994 and 1996. In late 1997, the firm’s vice president and corporate counsel reviewed summary data and case material relative to the JV and agreed that it was correct in all substantive aspects. The researcher also attended two shareholders’ meetings in 1996 and

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1997 where various aspects of the JV were discussed in great detail. Data collection was finally completed in 1998 when the International Court of Arbitration made its ruling. After reviewing the 88-page document, the researcher conducted a final interview with the firm’s vice president and corporate counsel. The case analysis and description that follows convey an order that was not always evident as the data were being collected. There was much ‘‘overlap’’ between data collection and analysis as is normal in case study research (Eisenhardt, 1989; Miles & Huberman, 1984; Yin, 1984) and what was happening, as the firm evolved, often became understandable only in retrospect, not at the time.

4. The case of a new venture and international expansion via a joint venture relationship 4.1. Introduction The following case is organized around four major events relative to firm founding and subsequent initiation and dissolution of the IJV relationship. After each of the four sections, a short ‘‘retrospective signposts’’ subsection highlights some of the major themes that become relevant during the development of the findings and conclusions. 4.2. Firm creation and initiation of the joint venture relationship Z.I. Probes (ZIP) was founded in 1987 by Tokunosuke Ito and his brother-in-law Don Clark. Prior to founding the firm, Toku was completing a PhD in engineering at the University of Oklahoma and Don was working in the Canadian oil services industry as a sales agent. A business plan described the firm’s intent to focus on ‘‘the design, manufacture, and service of electronic downhole gauges and associated computer software for sale and rental to the oil industry throughout the world.’’ By 1991, the firm was nearing CDN$1 million in sales and had established a presence in the Canadian oil services industry. Growth was less than anticipated largely because of a downturn in the oil industry and increased competition as other major oil service suppliers began to move into the electronic probes market. Expenses were still exceeding revenue and the firm was badly in need of cash. For ZIP, the strategy of becoming involved in an IJV evolved over time, and the pattern that emerged became recognizable only in retrospect (Mintzberg & Waters, 1985). Upon reflection, ZIP management reported two ‘‘coincidences’’ that occurred in 1991 and eventually led to an IJV. First, engineers who had used the probe in Canada were transferred to Yemen and began requesting the product. Don and Toku quickly realized that the vast oil reserves in the Middle East represented unlimited market potential along with significant profit margins. Eager to find more business, ZIP approached a trade representative from the province of Alberta to make contacts; however, a subsequent trip to the Middle East did not lead to any deals. Shortly after the Middle East trip, Mr. Frank Fleming from the United Arab Emirates (UAE) was visiting Canada. He was the general manager of Bin Desmal Trading and Imports, Oilfield Services and Engineering Division (BDTI). The trade representative

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introduced Mr. Fleming to Don and Toku as a potential investor in ZIP. Early in the relationship, the discussion focused on a CDN$500,000 equity investment under similar terms to what other angel investors had with the firm at the time. Don and Toku traveled to Abu Dhabi for the initial introduction and Mr. Fleming later traveled to Edmonton to tour ZIP’s facilities. During the course of the negotiations, Mr. Fleming discouraged further participation from the broker, who was reluctant to exit the deal. ZIP later paid the broker CDN$10,000 for his role in making the initial introductions. Mr. Fleming soon suggested that instead of an ‘‘arms length’’ investment relationship they explore the possibility of doing a JV in the Middle East. Don and Toku found this option attractive. Their previous visits had confirmed that oil-related activity within that region of the world yielded premium prices for goods and services. On the other hand, there were many unknowns. Little was known about BDTI, or about doing business in the Middle East. On several occasions each partner expressed concerns over the pending relationship, citing that they ‘‘didn’t have a good feeling about Frank or the deal.’’ Their wives had also met with Mr. Fleming, and they, too, had expressed reservations about a business relationship. But the Canadian local market was not generating anticipated revenues and ZIP was cash starved. Therefore, in mid-1991, ZIP was continuing to explore the possibility of an alliance. Discussions evolved and it was decided that a JV was the best way of handling the exchange relationship. In 1997, reflecting on ZIP’s overall experience at becoming involved in a JV, Bob Gordon, general manager and corporate counsel for the firm, offered this perspective: One dynamic often at work is the process of whether you are setting out to look for or establish a joint venture because it fits with objectives that you have, or whether it comes in the course of some other ties. That’s what we’ve experienced and normally what other small businesses experience. They don’t sit down and say, what are our objectives, what are our plans, and then say what is the best way we can achieve them and then decide the best way we can achieve that is to form some type of joint venture. And then decide who they would like to look for as a partner. More often you meet someone at a meeting or through a sales contact. Through that contact there’s some sort of business opportunity that grows and you begin to look at it. And it really comes out of an opportunistic mindset where someone is looking to get something rather than to form a joint venture. You’re looking to achieve some sales or get into a new market or do something, and so you very often don’t choose your partners, you end up trying to force a joint venture with a partner that’s come along through some other contact. There is a greater chance of success if you pick your partners strategically. But I would think that is very rare for a small firm. That would probably be more typical of larger organizations where they are setting strategies in place and they are saying rather than us building this area ourselves, let’s look for someone and joint venture with them. The smaller guys. Most of my experience with them tells me that they aren’t thinking joint venture until they are already into some form of a negotiation or a relationship and it’s recommended to them: ‘‘Let’s do it by way of a joint venture.’’ If you backed up and said, ‘‘Yes this is the best way to do it. Maybe we should do a joint venture.’’ But then you should ask: ‘‘Is this the best guy to do it with.’’ They weren’t doing that. They were looking for opportunities wherever they could find them. We call it ‘‘shooting down every hole’’ in the oil industry and that doesn’t necessarily get you the best results.

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4.2.1. Retrospective signposts New venture driven by need for cash; opportunistic behavior; new venture team ignores intuition and reservations of spouses; due diligence on partner and JV agreement limited by time and resources. 4.3. Specifying the relationship via a joint venture agreement Details of the co-operative relationship between BDTI and ZIP evolved over a sevenmonth period. Three documents largely captured these details and were usually referred to as the letter of agreement, the agency agreement, and the JV agreement. ZIP signed a ‘‘letter of agreement’’ with BDTI on July 14, 1991. Major features of this letter were the stated intention that ZIP would grant BDTI marketing rights to their electronic probe in certain territories of the Middle East in return for cash. There were some delays in solidifying the relationship and it was not until February 12, 1992, that both parties met in Abu Dhabi and signed a five-year ‘‘agency agreement.’’ Within days, Mr. Fleming had rewritten this document and forwarded them a new copy of what was to form the basis of a new agreement. Don reported a sense of frustration during this time because: ‘‘Frank always wanted to be in control and would not even look at some of the material we had our lawyers draw up.’’ Frank had the money, and this clearly gave him the upper hand during negotiations. ZIP and BDTI signed what was to become a ‘‘JV agreement’’ on February 16, 1992. Explicitly stated in the JV agreement was that: ‘‘This agreement and the documents referred to herein set forth the Entire Agreement between the parties and supersede all prior agreements and understandings between parties.’’ Notably, this agreement contained a provision for International Chamber of Commerce (ICC) arbitration in Zurich and a choice of laws of the UAE. Substantive features of this important document included an agreement between ZIP and BDTI to form ‘‘a company’’ whose primary activities would be ‘‘the leasing, sale, and rental of ZIP’s electronic downhole probes’’ as well as related applications and technical back-up services in the Middle East region. Also specified were capitalization, territory, financial resolution, and partner responsibilities. BDTI would own 51% of the new company for a subscription price of CDN$500,000. ZIP would own 49%. BDTI was to be granted exclusive marketing rights for ZIP’s products in the following territories: the UAE, the Sultanate of Oman, Kuwait, Saudi Arabia, Syria, Qatar, Pakistan, India, Egypt, Bahrain, Iran, and Iraq. BDTI was required to pay CDN$250,000 by March 15, 1992, accompanied by an additional payment of CDN$125,000 by April 15, 1992. The remaining CDN$125,000 was to be placed in a bank account by May 15, 1992, in the name of ‘‘The Company’’ for purposes of establishing and operating the company. (The agreement contained a provision to change any of the payment subject to the approval of ZIP, in writing.) BDTI’s expressed responsibilities were to provide capital on stated dates, necessary introductions, political support, advice regarding local customs and laws, and promotion of the product range. BDTI was also required to protect ZIP’s ownership and proprietary technology interests as well as assist in securing visas, work permits, and other formalities

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Fig. 2. The BDTI/ZIP JV.

associated with the ‘‘ingress and egress’’ of personnel and representatives. ZIP’s responsibilities were to provide (a) probes, software, and all technical support in the territories and Canada and (b) technical personnel. Additionally, ZIP was to provide services to the ‘‘The Company’’ on an ‘‘at-cost’’ basis. Fig. 2 depicts the entity — BDTI/ZIP — created through the JV and the major resources each partner was to contribute to the partnership. 4.3.1. Retrospective signposts High tech firm to provide technology and support; financial partner dominates deal structuring; both parties optimistic about agreement, each possibly overstating their ability to deliver. 4.4. The ‘‘operational phase’’ of the joint venture The IJV lasted just 33 months before being terminated by ZIP. The following is a description of significant events and circumstances throughout the life of the relationship. It is largely based on perspectives expressed by key players within ZIP and is reconstructed from company archives, international arbitration proceedings, witness statements submitted to the proceedings, and interviews with key players within ZIP. In June of 1992, Jeff Edwards, a ZIP employee, was seconded to the JV and given the responsibility of providing technical support in the Middle East. He was well qualified for this role. He had worked for ZIP since graduating with a degree in Computing Science in 1989 and had extensive experience designing the probe and its associated software. Of the approximately 18 employees working at ZIP in 1992, he was the most experienced with regard to operation and use of the probe. Apart from a 35-day shift in Yemen helping engineers interpret test data associated with the probe, Jeff had never worked abroad and was looking forward to the important two-year assignment. He

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described (Witness Statement, ICC Arbitration No. 8625, p. 3) the context at the time of his departure: At the time of my departure (June 1992), there was very much a mood of excitement at ZIP. It was felt that this joint venture would create a ‘‘win/win’’ situation for both ZIP and BDTI. Everyone was very excited about the opportunities that this would open up in the Middle East.

Jeff (ibid., pp. 2–3) further clarified his interpretation of what the roles would be: I was advised that Frank Fleming was to be my boss and that he had both the connections in the Middle East to secure work and the expertise on marketing/sales in the oil industry in the Gulf . . .. I also understood from Don Clark that Frank, as my boss, would take charge and make decisions, and that I would merely provide technical assistance and back-up, in other words, the customers would come to me for technical assistance and I would liaise with and report to Frank about everything.

At the outset, Jeff understood: From conversations with both Don and Frank, that I was being seconded to the joint venture for a term of two years. I would effectively be employed by BDTI, on behalf of the joint venture, throughout this period, since they would be paying my salary and expenses. I signed an Arabic contract with BDTI upon arrival in the UAE . . ..

Upon his arrival in the UAE, Jeff’s enthusiasm for the project immediately waned. He was disappointed by the lack of support from Frank and BDTI in personal matters such as obtaining a visa for his wife or finding an apartment. They lived in a hotel for three months. Jeff’s anticipated support never materialized as personnel from BDTI were generally working on other projects and had little time for the BDTI/ZIP JV. Frank suggested that he take more of the sales work in addition to his technical responsibilities. Jeff was concerned: I felt very frustrated at this, because I had been led to believe that my role in UAE was to set up the technical side of the joint venture and I knew I was ill-equipped to do sales. I also realized that I would be incredibly overworked.

The frustration continued. In an 81-page witness statement (ICC Arbitration No. 8625), Jeff documented the many trials and tribulations in what would turn out to be a 27-month stay in the Middle East. These problems are summarized below: 



Problems in regard to the pricing of the rental probes surfaced immediately. At Frank’s suggestion they priced the probe at US $500/day; Jeff was later to conclude that the original rental price for the probe was ‘‘about five times too high.’’ In the course of making several price reductions, they lost a number of important contracts. This scenario was often repeated. Jeff was later to conclude that: ‘‘It soon became clear to me that Frank had no proper grasp of the industry and was unable to offer sensible advice.’’ Initially, management at ZIP did not share Jeff’s assessment and were reluctant to take action: ‘‘Don had relied upon Frank’s previous assurances that our prices were reasonable, and seemed reluctant to question this.’’

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Jeff discovered that there was ‘‘a large difference between the system operating in the UAE and the ‘call out’ system that I was used to in Canada, whereby ZIP was paid every time it was called out to a job.’’ He described these differences (ibid., p. 8): ‘‘A locally owned company had to be accepted as an approved supplier, register for the services represented, and prequalify with an oil company in order to get on their bidders list. Prequalification was normally achieved by completing a successful free test for them. Once a local company was on a client’s bidders list, it would be informed when a contract was to be tendered and be invited to submit a sealed tender. This tender would normally be assessed by the client in two stages: technical and commercial. If successful at a technical stage, the bidder then would be allowed to proceed on pricing. Frank doesn’t provide contacts.’’ There were other important differences between the oil services industry in Canada and the UAE. In Canada, companies that specialize in ‘‘wireline’’ operations generally handle the logistics and engineering of getting the gauges or probes to the appropriate place in the reservoir being measured. Someone requiring probe data would generally have to deal with a wireline operator and a probe company. In the UAE, these services were generally provided by a single company. It was difficult to sell or rent probes that were not ‘‘bundled’’ with a wireline service. Frank had little understanding of the wireline service market and provided no help with this important aspect of their marketing efforts. At one point, Jeff and Don seriously considered acquiring a wireline company. The partners also disagreed over who their market was. BDTI wished to keep a narrow focus on the UAE market before looking at other countries. Frank’s reasoning was that if BDTI obtained work in the UAE they would have more political influence to use elsewhere in the Middle East. Jeff doubted that any ‘‘political influence’’ existed between countries observing that: ‘‘Each Arab country was different and there seemed to be little co-operation between them. Furthermore, most of the main oil companies had official systems of tendering, so that ‘political influence’ would have had only limited effect in these situations, except at the very highest level. Certainly, BDTI did not have influence at such a high level. Moreover, the fact the JV had obtained work in the UAE would not have necessarily have impressed foreign clients.’’ Jeff was concerned that this narrow focus was losing important business. BDTI and ZIP also disagreed over the approach to marketing. BDTI, for example, wanted Jeff to include a list of competitors’ shortcomings as part of an information package. While Jeff disagreed with this strategy, he had to seek support from Don before convincing Frank to change it. Development and introduction of a new high-temperature probe was problematic, further straining the relationship. In June 1992, ZIP did not have a high-temperature probe (capable of tests at temperatures over 275°F/135°C). In Canada, there was plenty of demand for lower temperature tests and ZIP had not seen any reason to develop a high-temperature probe until this market was exhausted. ZIP devoted substantial resources to developing a high-temperature probe. These efforts were not envisioned in the original JV relationship. Frank wanted to sell the latest technology in the Middle East and there was considerable disagreement over which probe to focus their marketing

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efforts on. Development of the new high-temperature gauge also created additional servicing problems for Jeff. He found it difficult to keep informed about modifications and upgrade decisions. As usual, there were problems shipping spare probes and parts. By 1993, Jeff concluded that Frank was only interested in the JV as a showpiece to BDTI customers. Frank always appeared to be traveling or heavily involved in other projects. His inability to provide contacts was a further source of irritation and amazement for Jeff. Often Jeff would joke with his wife, who was giving private piano lessons to the general manager of an oil company, that her contacts were better than Frank’s. Jeff was also aware that tensions were mounting between the management of BDTI and the management of ZIP. Frank was beginning to claim that ZIP’s technology was not what BDTI needed while ZIP was claiming that BDTI was failing to market their product. BDTI was also frustrated with the relationship. Excerpts from written communications throughout 1993 are illustrative of these frustrations. Concerns and accusations expressed by BDTI during this period included: DPC chose gauges that have 1980 technology because our price was approx 100% out. No matter what politics we have if we are 100% high in price, we have a major problem. The point of saving millions by using ZI technology still evades me as no one seems be able to put a dollar value or a feasible case together to allow us to identify this saving. Your visits to UAE culminated in your statement that the UAE was needing and was desperate for ZIP’s technology, this was obviously not quite the case. Jeff was located here basically left to get on with it as far as Edmonton were concerned, this including fixing gauges and qualifying for contracts. Once you get to Abu Dhabi we will discuss the account situation especially to supporting Jeff over the next twelve months, we much remember that Jeff was expected to be supported by revenues which have not been forthcoming for whatever reasons. At this point of time, we have had from you eleven probes (plus two more coming) which is just over 65% of the agreed inventory and you have had 90% of the payment. I agree that in order to obtain coverage we need to get our agents in place . . .. As your knowledge of Middle East politics is somewhat lacking, you obviously do not understand the necessity of the publishing media and I suggest strongly that you move this requirement from your long term plan to your short term plan. The people network is not difficult to activate and now that we have a reliable inventory with high temperature gauges we will ensure that this happens. Here in Abu Dhabi until we have good test results in hand and establish a no comeback situation we can not pull the political trigger . . .. It is therefore perfectly apparent that until we achieve a working product range, recognised back up service and have an order or two in Abu Dhabi, other areas of the Gulf will not take us very seriously.

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Throughout this period (1993), ZIP also expressed a set of concerns about the relationship. These concerns were summarized by Don in a lengthy letter to BDTI in late 1993. We had made a previous decision to stop all further deliveries of any kind to Bin Desmal/ Z.I. Probes until some payment, as promised, was received . . . we have decided to extend ourselves one more time . . . If the promises are not honoured, it may be necessary to redefine our relationship. The promises that we are relying on are: Error(1) Payment of $65,000.00 to Z.I. Probes, which was originally due April, 1992, by December 15, 1993, or at the absolute latest December 31, 1993. Error(2) Immediate payment of invoice #421 in the amount of $5,815.00 U.S. Error(3) The opening of a separate bank account for the joint venture and registration of the joint venture company prior to December 31, 1993. Error(4) Immediate payment of invoices for parts that are being forwarded to you. Error(5) A full accounting of the JV. Frank, we have attempted from the outset to honour all obligations and commitments at the same time making reasonable business decisions with respect to the joint venture. It is apparent that you may have a different perspective than we do with respect to what has transpired since the initiation of the joint venture. In order for you to perhaps better understand the decision that we have made, we feel it is important to set out for you from our own perspective how we see things have transpired. Costs of supplying gauges have exceeded monies received from BDTI. ZIP has provided technology as well as key personnel to the joint venture. We have other operations and commitments in the United States, Russia, Southeast Asia and are continuing to initiate further ventures in other parts of the world. If there is a greater prospect of return from our technology and efforts in other areas and we conclude that our investments in the Middle East are at risk, it would be a poor business decision to take resources and efforts away from other projects and direct it into an area where we have serious questions whether any revenue will ever come out. The failure to pay money owing on numerous occasions when it was promised and the failure to account for revenue that we know is being earned by the joint venture, logically leads us to believe we may never see any money at all. On top of all this we have minimal tangible assets for any of the investment we have made . . . we have no share representing an interest in assets that are in U.A.E. and no revenue has come out of the joint venture. Whereas, for the investment of Bin Desmal you have all of the equipment that was sent, and the retail value alone of the gauges and battery packs represents more than your whole investment. Should the joint venture fail at this point you would be able to recover your entire investment and more, while we would be able to recover $20,000.00 at most. We have had this concern for more than a year now and on numerous occasions have attempted to normalize relations with Bin Desmal. The only input into the joint venture from Bin Desmal has been the initial investment of $310,000.00 (from our calculations revenue earned by the joint venture has more than been sufficient to cover the operation expenses) since that time there has only been demands from Bin Desmal and a refusal to cooperate on issues of payment, documentation and account of the joint venture. On top of that, in spite of numerous promises, you have failed to provide the marketing that is a responsibility of Bin Desmal.

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With respect to performance problems since the start of the joint venture, we have worked diligently and co-operated fully to try and resolve them as they arose. It should be noted though, that in terms of performance of the equipment it has proven itself in direct comparisons and competition with other top manufacturers around the world. Of specific note is the test performed by Shell in Malaysia of the top gauges in the world, with our equipment coming out clearly as the best overall performing gauge. The recent deterioration of the equipment is due primarily to a lack of parts to maintain and repair gauges. We were not prepared to continue sending more parts, more equipment and more technology into a venture without any prospect of being paid. As mentioned earlier in the letter we have made a decision to risk more money, in the prospect of trying to normalize relations with Bin Desmal and see the joint venture become successful. If Bin Desmal fails to honour the promises made and provide the accounting requested we can only conclude that Bin Desmal is not interested in making the joint venture work.

Jeff also continued to encounter problems on a day-to-day basis. Office space was inadequate. They moved to new offices, however, facilities continued to be generally poor relative to the region. Jeff even reported having to work for several months with a power supply inadequate for servicing probes. By 1994, relationships between the two partners had deteriorated to a point where Don was afraid to travel to the UAE because he feared legal and even physical reprisals if he attempted to meet Frank in his own country. Still desirous of a ‘‘face-to-face’’ meeting where they could address their problems, Don managed to arrange a March meeting in Cyprus. To Don’s delight, the anticipated showdown never materialized. Both sides agreed to work more diligently at making the relationship work. Shortly after the meeting, Don described it thus: I was ready to walk . . . I was waiting for him to do his usual antics, the meltdown, cussing everything and throwing stuff . . . and he never did. He came clean, you know he uses colourful language but he basically said: ‘‘I screwed up, I didn’t give you the money, and you didn’t send me the stuff. And I can understand it.’’ Well that changed everything. We were ready to rip through everything and he was ready to co-operate.

Overall, Don left the Cyprus meeting with a renewed sense of optimism regarding the survival potential of the JV. He also reported that, while in Cyprus, he met with other North American businessmen who had worked in the Middle East for years. These veterans described Don’s experiences as minor tribulations, and Don mused that perhaps due to his own limited international experience he had lacked an appreciation for dealing with the nuances of different cultures. At the Cyprus meeting, a significant new problem emerged. Jeff’s two-year contract would be expiring in June and he did not wish to remain in the Middle East. Frank was very unhappy about this pending change, remarking that it would jeopardize the success of the JV. All parties — Jeff, Don, and Frank — initially agreed that they would work to resolve this issue. Finding a suitable replacement for Jeff would further stress the already fragile relationship. ZIP submitted the resumes of several suitable candidates. None of them were acceptable to Frank. ZIP invited Frank to sit in on recruiting interviews while he was in Canada on other business. Frank did not take advantage of this offer. Jeff was persuaded to

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stay for an extra three months after his contract expired. Salary and related expenses soon became an issue as BDTI withheld payments. Neither Jeff nor his staff had been paid for April, May, or June of 1994. Jeff began paying his assistant out of his own pocket. Although many of these financial issues were later resolved, BDTI’s actions made it incredibly difficult for ZIP to recruit anyone for the JV in the Middle East. As Don reported, it was difficult to tap someone on the shoulder and say: ‘‘Have I got an opportunity for you. You have to travel half-way around the world and you might not get paid.’’ 4.4.1. Retrospective signposts Much confusion regarding roles and routines; out of necessity, the new venture’s ‘‘technical’’ on-site person required to assume roles in marketing and managing; JV has little understanding of market and pricing; disintegration of relationship; inability to address problems or build trust; new firm lacks resources; HRM and provision of ongoing technical support is problematic; partner does not provide necessary customers and management; both sides have concerns about how the JV is run, unable to jointly create a viable JV organization. 4.5. Termination of the joint venture and international arbitration Problems with the relationship persisted and ZIP’s frustration level escalated. Finally, in exasperation, Don terminated the JV in a fax dated November 10, 1994, stating that: ‘‘The working relationship between the two companies anticipated in the agreement has never materialized and the agreement is therefore terminated.’’ Within four days (fax dated November 14, 1994), Frank Fleming prepared this response: ‘‘I am astounded in the manner in which you believe you can transact business however, to the point in issue, we reject your fax of November 10th in which you advise of termination of the agreement between Bin Desmal and Z.I. Probes.’’ BDTI expressed a desire to continue the relationship, suggesting that Bin Desmal did not ‘‘invest half a million Canadian dollars at a time when it was much needed by your company and expect the type of response we have in our possession.’’ BDTI also warned that: ‘‘we will exercise every possible legal right to conclude this situation to our satisfaction.’’ BDTI subsequently filed for international arbitration with the International Court of Arbitration, ICC. The firms then entered into a three-year odyssey of arbitration. A series of claims and counterclaims were filed. ZIP management often commented on the many ironies of the arbitration. For example, ZIP’s legal fees for the arbitration were estimated to nearly equal the amount of BDTI’s initial investment. Also, the time spent in arbitration was greater than the actual life of the JV. In its arbitration request, BDTI claimed that the parties were bound by the contracts of February 12, 1992, and February 16, 1992; and, ZIP had no right to terminate them. BDTI filed a claim for losses totaling CDN$5,716,187.83. In an answer to the request for arbitration, ZIP claimed that they were entitled to terminate the JV because BDTI had not lived up to the terms of the agreement. Numerous pages of legal documents and witness statements made the claim that BDTI had failed to: open and operate a separate bank account for the JV; pay CDN$125,000 into a separate bank account for the

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operation of the JV; keep proper accounts; share revenue; complete necessary steps to register the JV; promote products as required in the agreement; ensure adequately trained personnel were retained by the JV; pay employees as required and other bills of the JV at time when BDTI was using for itself revenues of the JV; manage the JV. ZIP subsequently filed a counterclaim for losses totaling CDN$2,321,450. In a response to ZIP’s counterclaim, BDTI further claimed that: it was induced by misrepresentation to ‘‘invest’’ CDN$500,000 directly into ZIP; ZIP misrepresented the quality of their product and their technical support ability and also failed to provide competitive pricing and adequate technical support; formation of the JV company was a joint obligation and registration was the responsibility of Jeff Edwards; in 1994, ZIP created a Cyprus company to be the JV partner, which caused delays in formation of the JV company; ZIP did not complete its part of the paper work and was negligent in fulfilling formalities; ZIP breached the agreement by transfer of Jeff Edwards and failed to provide technical support and personnel; ZIP was unable to supply high-temperature gauges required in the Middle East; ZIP kept BDTI’s investment and did not use it for the intended purpose. In January of 1998, ZIP management was still anxiously awaiting a ruling on the international arbitration. While not anticipating any financial compensation, they remained optimistic about a favorable ruling that would at the very least remove the spectre of future liability. An IPO was pending. The firm had also been successful on a number of other fronts. It was claiming to be ‘‘among the top five gauge manufacturers in the world’’ and had grown to over 50 employees with a projection of nearly CDN$6 million in annual sales. The firm had opened two branch offices in Canada as well as offices Texas and Louisiana. Forecasts were for ‘‘continued strong growth.’’ In 1997, US revenues grew by 257% and represented over half of the firm’s total revenues. Through a variety of lease, sale, and service agreements with oil service companies the firm also had product in Mexico, Southeast Asia, Russia, and the Middle East. The firm had also introduced two new successful products that complemented the original probe: an electronic ‘‘downhole shut-in’’ tool that substantially reduced the time an oil well would be out of production during tests — dramatically reducing the costs of testing an oil well; also a surface data system that allowed the transfer of data from remote sites via satellite to any designated location — also reducing the costs of collecting data and allowing for substantially more volumes that could be delivered in real-time. Management and shareholders were holding ongoing discussions about the possibility of a public offering. In a widely circulated ‘‘investment matching service’’ brochure, the firm was describing itself as ‘‘branching out from the oil and gas sector to investigate other industry applications for its remote sensing technology’’ as well as ‘‘seeking strategic alliances, licensing, marketing, and technology transfer opportunities with compatible companies.’’ An International Court of Arbitration Ruling (p. 6, Case No. 8625, March 13, 1998) summarized performance and termination of the contract thus: ‘‘The parties sought to perform the JVA from the date of its signature. Until the end of December 1992 relations between the parties were good. In January 1993, after the failure of a major bid, they deteriorated sharply and continued to be poor and gradually worsened until the termination of the JVA by ZIP on November 10, 1994.’’ In its ruling, the court found that ZIP has acted lawfully in terminating the contract and ruled largely in favor of the firm. For example, BDTI was ordered to pay

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80% of the ICC costs and was also ordered to pay ZIP an award of CDN$1,152,542 with interest. (Although relieved at having the spectre of liability removed, ZIP was not optimistic about collecting this award). Management personnel at ZIP were unanimous in their agreement that the IJV, albeit a useful learning experience, had been an unfortunate and potentially ruinous relationship. Dissolution of the JV and associated arbitration activities had taken more time than the actual life of the JV. Additionally, costs associated with these activities had exceeded revenues generated by the JV. For Don, the greatest tragedy was the opportunity costs associated with the venture. When I look back on it. You know we didn’t have to go there. We had expansion opportunities right at our own back door. There’s always been lots of activity in Texas and Oklahoma. You know it’s so much easier, you name it: time zones, distance, currency exchange, language, culture, transferring personnel. They just do business a lot like us. We’re there now but we could have been there a lot sooner if we hadn’t have gotten involved with Frank. I’m not saying we shouldn’t have been in the Middle East. We should have just done it differently. The joint venture just didn’t work. Either Frank should have run or we should have run it. We suggested that in the end. But it was too late. It was a real drain. We’d be a lot bigger now if we hadn’t gotten involved with Frank.

He further noted that, ironically, ZIP may not have needed the cash initially provide by BDTI: You know shortly after we got into the joint venture, Bob our general manager and corporate counsel came up with what proved to be a great way of raising cash. Shareholder loans. At first I didn’t think the money was there. We wanted to build some probes so we made a proposal to existing shareholders to finance the project at attractive interest rates. I couldn’t believe the response. We had to give some of the money back! So it turned out that when we needed money we could turn to existing shareholders or people they brought on board.

Reflecting on his experience as general manager of ZIP and corporate counsel throughout much of the arbitration, Bob Gordon, noted two major dynamics relevant to new firms and JVs: Dynamic 1. Opportunistic mindset and lack of attention to evolving organization: In some sense, when looking at joint ventures, the new venture is at a disadvantage. That’s because by nature any reasonably successful new venture or entrepreneur is very flexible by need. In other words they respond very much to the immediate. Structure and organization, even if they have a mindset towards it, doesn’t work yet. Doesn’t fit. Because you don’t have the overall resources to be able to manage a large structure and organization. So their mindset is continually day-to-day in the perspective of dealing with the immediate and trying to be very flexible and accommodating to different environments and situations. So when you get into a joint venture that very mindset makes a joint venture chaotic because in order for two totally distinct individuals — or entities — to work well together they have to have an intimate understanding of expectations of each other and by their very nature the new venture often doesn’t do that. So if there are two new ventures it ends up with both of them fighting

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all of the time. If there is one larger venture typically they will have an upper hand because they are much more organized and have strength. They know what they want to get out of the joint venture and they make sure that it is built that way. The new venture is not only creating roles and routines, it’s used to changing them all of the time. This isn’t necessarily the best way to go for a joint venture.

Dynamic 2. Heightened expectations: Another dynamic is heightened expectations about what the joint venture will deliver. Also, very often both sides come with unrealistic expectations about how quickly things will happen. When they initially discuss the joint venture both sides have incentives to be overly optimistic about what they can deliver because it enhances their equity position or whatever. It happens primarily in the areas of marketing assessment or expectations. It’s not so much a matter of misrepresentation. You are bringing what you say you have and who you are in terms of each piece that’s being brought. It’s in the anticipation of what will result that becomes exaggerated. In a sense each partner feeds off the other’s optimism and it escalates. It becomes hard to fulfill these expectations.

In summary, the IJV relationship between ZIP and BDTI was a failure. The Arbitration Ruling (p. 6, Case No. 8625, March 13, 1998) succinctly summarized a major condition leading to this failure: ‘‘The JVA was never as successful as either party had hoped it would be.’’ While ZIP eventually ‘‘won’’ at international arbitration, the relationship had created serious problems for the firm in terms of lost time, energy, money, and opportunity costs. 4.5.1. Retrospective signposts Termination of JV and subsequent international arbitration required both parties to reflect and state their case as well as obtain ‘‘legal’’ third party opinions regarding reasons for failure of JV; each side accuses other of not living up to terms of JV; ZIP accuses BDTI of not providing all of promised financing, inadequate marketing, and management of JV; BDTI accuses ZIP of taking cash but not delivering promised technology and necessary human resources to service and manage JV; International Court of Arbitration finds largely in favor of ZIP.

5. Discussion The aim of this study has been to better understand new venture firms and international expansion via JVs. It has reported on the experience of a high tech firm that embarked on an IJV relatively early in its creation. The findings confirm previous observations (Inkpen & Beamish, 1997; Parkhe, 1993a) that JVs are subject to a high rate of failure and further clarify the reasons for this instability. Indeed they further illustrate that alliances do not represent easy ‘‘short-term’’ solutions for impressing firm performance (Duysters & Hagedoorn, 2000). While IJVs are inherently unstable, new ventures bring additional elements to the relationship, which further contribute to the instability. Inductive research methods have been previously recommended as useful for conducting research on IJVs (Kogut, 1988; Parkhe, 1993b). In accordance with these recommendations,

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the findings reported here are based on a single case study. While the case study method can be usefully applied to addressing ‘‘major gaps in IJV theory’’ (Parkhe, 1993b, p. 228), it should be emphasized that such research is exploratory and further research is needed, which replicates and validates the findings of the present study. Consistent with the practice of exploratory research, propositions are presented as a stimulus for further research. The findings of this research suggest that, for new firms, there are a series of liabilities layered throughout the IJV relationship. These ‘‘liabilities’’ have a number of dimensions. Each of these dimensions is described further below. First, it is well established that new ventures are subject to a substantial liabilities of newness (Stinchcombe, 1965). Entrepreneurs must learn new roles, invent new roles and routines, establish social relations among strangers, and develop a set of stable ties with users of their services. This concept is well developed in the literature (Aldrich & Auster, 1986; Carroll & Delacroix, 1982; Freeman et al., 1983) and has been previously discussed in this article. The ZIP case provided illustrations of the founders struggling with all four dimensions of the liabilities of newness during the initial founding of the firm. Furthermore, the JV relationship examined in the present study can be interpreted as an attempt to establish ‘‘social relations’’ among strangers as well as a ‘‘set of stable ties’’ with users of services. The remaining liabilities are stated and discussed as a series of propositions: Proposition 1: Young firms entering into a JV relationship face a ‘‘compounded’’ liability of newness. In many respects a JV is also a new venture. This characteristic makes it prone to the liabilities of newness because, once again, many new roles and routines must be invented and learned, social relations must be established, and a set of stable ties developed for the JV. The liability becomes compounded because of the fragility associated with the existing new venture, which engages in a JV while relatively young itself. As a key informant in the study observed, the new venture often lacks ‘‘structure and organization’’ and ‘‘roles and routines’’ are constantly being reinvented. A mature firm has an established structure and organization, parts of which can be grafted or cloned when devising the structure and organization for the new JV. In other words, it is difficult for a young firm to create the structure and systems appropriate for a JV while it is still engaged in the process of inventing and learning new roles and routines for its own operations. In the case of the JV examined in this study not only was there confusion over roles and routines, they were often changed and reinvented. Timely payment of money owed, invoicing, opening a bank account, and general accounting were all problematic. The firm’s key representative in the Middle East, Jeff, was initially under the assumption that he was to provide technical support to the new venture. He was often confused as his role changed to include marketing, sales, and overall management of the JV. By his own admission, he was ill-equipped to handle these new roles, and despite seeking clarification, received little assistance from either JV partner. Each partner assumed the other would be more active in managing the JV. Unlike traditional new ventures founded by motivated entrepreneurs, the JV

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lacked a dedicated champion. Product pricing was also a perennial problem stemming from a lack of understanding of the market. It was extremely difficult to establish social relations and build customer relationships in this new market. Clearly, the JV had a great deal to learn about the tendering process as well as important differences in the foreign oil services market where probe services were typically ‘‘bundled’’ with wireline services. The JV was not equipped to provide wireline services and was thus at a serious disadvantage. Additionally, inventory management was problematic. Ongoing technical improvements to the probe added further confusion relevant to sales and services. These problems greatly contributed to the failure of the JV. Proposition 2: When organizing the JV relationship, entrepreneurial new firms face a liability of ‘‘hyperoptimistic’’ imperialism. Growth is readily recognized as a major strategic objective for entrepreneurial firms and is often used as a major criterion for distinguishing them from those of the ‘‘mom and pop’’ variety. However, there is a danger that ambitious builders can evolve into hyperoptimistic imperialists. In the case examined here, each partner had incentives to present overly optimistic scenarios about what the relationship could deliver. It enhanced their bargaining positions. The optimism escalated, eventually nurturing unrealistic expectations within each partner about what the relationship could deliver. When the relationship did not deliver on the overinflated expectations both partners became disenchanted. The JV partners, driven by their inclination for growth, overlooked important aspects relative to the organization of the enterprise. JVs require a great deal of clarity regarding roles and routines; otherwise, the organization is prone to confusion and failure. Entrepreneurs, preoccupied with achieving growth, often have limited time or inclination to address these challenges. In their ongoing enthusiasm for ‘‘doing the deal’’ they often neglect important aspects of ‘‘structuring the deal.’’ Proposition 3: JVs are subject to a liability of ‘‘multiparty’’ governance. Multiparty forms of governance place new firms in a further precarious position and represent a further liability in the JV relationship. JVs represent a ‘‘hybrid’’ of two independent firms and ‘‘dissimilarities in organizational structures and processes’’ can create problems (Park & Ungson, 1997, p. 285). While a JV may represent the forging of two distinct governance structures it also signifies the creation of a separate entity. In reality, there may be vestiges of three distinct governance structures: the two founding firms as well as the newly created entity. The JV examined here provided many illustrations of confusion and disagreement regarding roles and actions. This confusion added to the transaction costs. Many day-to-day decisions (i.e., marketing, servicing, product pricing) led to disagreements. Distance and communication difficulties compounded the problem. Snow, Miles, and Coleman (1992) identified three critical roles for managing a network alliance — architect, lead operator, and caretaker. Initially, no one appeared willing to assume lead operator or caretaker roles. By default, the technician ultimately assumed some of these roles. The entrepreneur’s

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conclusion provided a testimonial to the problems associated with multiparty governance: ‘‘Either Frank should have run or we should have run it. We suggested that in the end. But it was too late.’’ Proposition 4: New firms entering into a JV relationship encounter a liability associated with their small size. According to the ‘‘liability of smallness’’ hypothesis firms, fail because they are small and subsequently lack sufficient resources to overcome adversity. This hypothesis is also well developed in the literature (see Aldrich & Auster, 1986; Bruderl & Schussler, 1990; Hannan & Freeman, 1984). For new firms, multiparty governance presents further problems if the firm is operating from an eroded power base (i.e., hostage instead of a mutual hostage situation). The inadequate balance of power places the firm in a poor negotiating position when making decisions relative to the JV. For example, when negotiating the terms of the JV agreement, the entrepreneurs lacked experience as well as the financial and legal resources to negotiate effectively and structure the deal appropriately. These inadequacies created further problems as the relationship evolved. For example, seemingly simple things such as arranging a ‘‘face-toface’’ meeting became problematic because of issues of time, distance, and financial resources. Proposition 5: IJV relationships involving entrepreneurial new venture firms are subject to a substantial liability of opportunism. Entrepreneurial activity further compounds the liabilities associated with JV relationships. Entrepreneurs, by definition (Timmons, 1994), continually seek to identify new opportunities. When new opportunities do arise, they naturally reassess existing relationships, often abandoning those that are least productive. This behavior is consistent with Burt’s (1992, p. 8) observation that a player brings three types of capital — financial, human, and social — to the competitive arena and ‘‘walks away with a profit determined by the rate of return where the capital was invested.’’ Burt advises that competitive advantage is gained by networking strategically, that is focusing on relationships that provide the greatest returns while abandoning those that provide the least. In the present study, the entrepreneur stressed to his JV partner that his firm was ‘‘continuing to initiate further ventures in other parts of the world’’ and was considering abandoning the existing relationship if it remained unproductive. The eventual termination of the JV may have been a case of the firm wisely cutting losses; however, ironically this same firm had demonstrated remarkable patience and forbearance during its own founding and was unwilling to extend these same qualities to the relatively short-lived JV relationship. Proposition 6: New venture firms face a liability associated with coordination and control of international exchange relationships. International alliances represent ‘‘unstable organizational forms’’ (Inkpen & Beamish, 1997). IJVs are particularly subject to opportunism and a high rate of failure (Parkhe,

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1993a). Porter (1990) notes that international alliances are rarely a sustainable means of creating competitive advantage because of the costs involved in overall coordination as well as reconciling the conflicting goals of the partners. Indeed, the international arbitration examined in the present study was very much a case of each side accusing the other of opportunistic behavior. Fundamentally, ZIP claimed that BDTI used the JV to access their technology while BDTI claimed that ZIP used them as a short-term source of cash. Vast distances and cultural differences created substantial ongoing communication and human resources problems. The JV partners were never able to develop the level of trust and forbearance necessary for the relational contracting form of governance to work. The absence of a significant prior relationship before establishing the JV may have also contributed to this problem. Proposition 7: The greater the cultural distance between two partners in an IJV relationship, the greater the likelihood of IJV instability. The BDTI/ZIP relationship provided numerous examples of miscommunication, misattribution, and mistaken actions by both parties. Upon reflection and assessment of their actions the entrepreneurial firm’s management recognized that they had little understanding of either the cultural context of UAE or appropriate business norms. This lack of understanding contributed to the instability of the relationship. The personal trust or habitualization, which often substitutes for more formalized governance arrangements, never had time — nor proximal closeness — to adequately develop in this situation. In summary, this study has provided further evidence that the way a firm manages its relationships has important implications for overall firm performance. The discussion section has clarified some of the reasons for the instability of IJVs within young entrepreneurial firms and presented them in the form of theoretical propositions.

6. Conclusion For new venture firms, IJVs represent a form of organization that is particularly difficult to orchestrate. Nevertheless, given the important role of small firms in the global economy and the increased trend towards interfirm collaboration, IJVs represent a form of organization most relevant to the practice and study of international entrepreneurship. This article has focused on the IJV relationship within the context of new venture firms. It has suggested that, despite the critical role IJVs play in helping new venture firms mobilize resources, there are many liabilities inherent the IJV relationship. It has further clarified a number of these liabilities. In combination, these liabilities present considerable risk for new venture firms establishing alliance relationships. The present findings are exploratory. Further research, of both a descriptive and explanatory nature, is required to both extend and modify the present findings regarding this unique organizational form. In particular, more research is needed regarding the JV relationship and the liability of smallness. Also intriguing is further research that examines the ways in which JV

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relationships are established. Dominant paradigms (Osborn & Hagedoorn, 1997, p. 267) within strategic management and business planning are based on: ‘‘the presumption that senior managers rationally select an alliance option and craft each alliance to further the immediate interests of their firms.’’ The findings of the present study suggest that, for new venture firms, some JVs are the result of an emergent, as opposed to a deliberate, planned strategy (Mintzberg & Waters, 1982, 1985). More studies are needed that examine the process of JV formation and the juxtaposition of deliberate and emergent strategies within the IJV relationship. For new venture firms, relationships provide access to critical resources. However, these same relationships — particularly those with international dimensions — are indeed ‘‘risky business.’’ The present study clarified some of the reasons for the instability of IJV relationships. This clarification is valuable because it further contributes to the establishment of a theoretical basis for understanding the instability of IJVs. Despite their instability, these alliances potentially provide exceptional leveraging opportunities for new ventures and represent a key source of competitive advantage. The dynamics leading to their success and failure need to be better understood. Taken together, the findings of this study enhance our understanding of these dynamics.

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