A profit sharing scheme for a two-firm joint venture

Li DU, School of Economics and Management, Xidian University, China
Qiying HU, College of International Business and Management, Shanghai University, China
Liming LIU, Hong Kong University of Science and Technology

Copyright © 2004 Elsevier B.V. All rights reserved.

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Abstract

Consider the scenario when two firms are setting up a joint venture. One firm has a set of technologies and knowhow for a new product while the other contributes the necessary capital for setting up and running the venture. The key issue that the two firms face in negotiating the joint venture is to determine a fair value for the technologies and knowhow. This paper presents an approach by which each firm bids a price for the technology with an objective to maximize their own profits from the joint venture. Provided that their bids satisfy a cooperation condition, the two firms settle on a price using a simple valuation formula. We analyze the impact of various factors on the decision process and provide numerical results to illustrate the bidding strategies. We conclude that in order to maximize their profits, it is often more important for both firms to increase the chance of cooperation than to increase their own shares of the joint venture.