What a consortium is: structure, mutual liability and joint tender bids

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What is a consortium, and why do companies form one?

A medium-sized company will not win a tender worth NIS 100 million on its own, but three companies with complementary capabilities can. A consortium is an arrangement in which two or more companies join together temporarily to carry out a defined project: a public tender, an infrastructure project, product development. Unlike a permanent partnership, it is meant to end with the project; unlike an ongoing joint venture, it usually remains a contractual arrangement only, without a new legal entity.

In Israel there is no law that governs a “consortium” as a term. The general law of contracts applies to it, and in certain circumstances (as explained below) also the Partnerships Ordinance [New Version], 5735-1975. So anything not written in the agreement will be decided by the default rules of the law, which are not always what the parties imagined. More on similar structures in the guide to joint venture (JV) agreements.

A consortium without a company: is it a partnership?

The Partnerships Ordinance defines “partnership relations” as “the relations between persons carrying on a business together for the purpose of making profits”, and provides that receiving a share of the profits of the business is prima facie evidence that a partnership exists. A consortium that runs a joint project and divides its profits may therefore be considered a partnership, even if the parties did not intend this and did not register it. The results:

• Authority to bind: under section 14 of the Ordinance, every partner is an agent of the partnership and of the other partners in every matter of the partnership’s business. In other words, a consortium member may bind the others to obligations they did not approve.
• Joint and several liability: under section 20, every partner is liable, jointly with the other partners and severally, for all the obligations of the partnership. Section 20(b) adds an important procedural qualification: an order for enforcement proceedings against a partner for their several liability will be given only if the partnership has been dissolved, or if the creditor obtained a judgment against it that was not fully performed.

Even if there is no partnership, the Contracts (General Part) Law, 5733-1973 leads to a similar result toward the client: section 54 provides that “where two persons are bound by one obligation, they are presumed to be bound jointly and severally”, and section 55 allows the creditor to demand the whole obligation from each of the obligors. So the starting point of the law is shared and full liability, and any departure from it requires express wording.

With a company or without: what is the difference in practice?

A special purpose company (SPV): the members set up a limited company that signs the contract with the client, runs a bank account and employs workers, and each member holds shares in it. Under the Companies Law, 5759-1999 (חוק החברות, התשנ״ט-1999), the company is a separate legal person, and the shareholders’ liability is limited, unless they gave personal guarantees, and in large tenders the client usually demands such guarantees from the parent companies. The structure is more expensive and more cumbersome, but it clearly settles who signs, who pays and who is liable.

A contractual arrangement only: there is no new entity; there is an agreement between the companies and a “lead member” that represents them toward the client. It is cheap and quick, but exposed to everything described in the previous section. On this route the internal agreement must do a lot of work: state expressly that there is no intention to create a partnership, deny each member the authority to bind the others without written authorization, and set a mechanism of mutual indemnity. These three provisions are not standard wording, and they are the reason legal support with commercial contracts is needed before the joint bid is submitted.

What must the consortium agreement contain?

• Division of work and timetable: who carries out which part, with which milestones, and what happens when a member is late, including the right of the other members to complete its part at its expense.
• Division of income and expenses: by fixed participation percentages, by work actually done, or a combination. Wording such as “according to contribution” without a measurable definition is a recipe for a dispute.
• Management and decisions: a steering committee, the majority required for each type of decision, and the powers of the lead member, including what it may commit to on behalf of the consortium and what requires everyone’s approval.
• Liability toward the client and between yourselves: an internal arrangement under which each member bears the damage caused by its fault and indemnifies the others, and alongside it a provision in the contract with the client (if the client agrees) that limits each member’s liability to its own part.
• Guarantees and insurance: who provides the tender guarantee and the performance guarantee, how their cost is divided, and which policies are required. See the guide to bank guarantees, which also explains the difference between an autonomous guarantee and an ordinary guarantee and when forfeiture can be stopped.
• Exit, entry and insolvency: whether a member may leave in the middle, on what terms, what happens to its part if it enters insolvency proceedings, and a replacement mechanism that the client will accept.
• Confidentiality, intellectual property and non-competition: who owns the results of development, and what the members may do regarding competing tenders during the term of the agreement, subject to competition law (below).
• Dispute resolution: an internal escalation mechanism, mediation or arbitration, so that a dispute between the members does not stop the project toward the client.

A numerical example: what happens when one member fails

Three companies submit a joint bid for a project of NIS 30 million, divided 50%, 30% and 20%. The company responsible for 20% of the work collapses in the middle, and the client claims NIS 3 million for the delay and the completion of the work (figures for illustration).

• Toward the client: if the contract with the client does not provide otherwise, the presumption of “joint and several” liability allows the client to collect the full NIS 3 million from the large company alone, even if it performed its part flawlessly.
• Between the members: the Contracts Law gives an obligor who paid more than its share a right of recourse against the other obligors according to their shares (section 56). The internal agreement can set a different division (for example, that the member in breach bears the full damage), but the right of recourse is worth only as much as the other member can pay. Against a member that has collapsed, the internal indemnity exists only on paper.
• What really helps: separate performance guarantees for each member, insurance, and a provision in the contract with the client that limits each member’s liability to its own part. Without these, the strong member is in effect the insurer of the weak ones.

A consortium in a public tender: what to check before submitting

A joint bid in a tender of a public body is subject to the tender documents and to the principles of the Mandatory Tenders Law, 5752-1992 (חוק חובת המכרזים, התשנ״ב-1992) (equality, fair competition). The tender documents determine whether a joint bid is allowed, whether each member must meet the threshold conditions on its own or whether meeting them jointly is enough, who signs the bid and who provides the guarantee. Departing from these requirements may disqualify the whole bid, so the tender is read before the agreement is drafted, not after.

A point that is often overlooked: the tender guarantee. Under regulation 16B of the Mandatory Tenders Regulations, 5753-1993 (תקנות חובת המכרזים, התשנ״ג-1993), the tenders committee may make participation conditional on depositing a guarantee and set its type, terms, amount and duration; and it may order its forfeiture, in whole or in part, only after giving the bidder an opportunity to present its arguments, and only on one of four closed grounds (trickery or artifice, misleading information, withdrawing the bid after the deadline, and failing to meet preconditions for the engagement after winning). In a consortium it is important to decide in advance who provides the guarantee and who bears the loss if it is forfeited because of an act or omission of one member. Details in the guide to bank guarantees.

There is also a competition law aspect. Under opinion (גילוי דעת) 1/21 of the Israel Competition Authority, an alliance between competitors to submit a joint bid in a tender may be a restrictive arrangement under the Economic Competition Law, 5748-1988 (חוק התחרות הכלכלית, התשמ״ח-1988), even when it is made before the pre-qualification stage, and the block exemption for joint ventures does not apply to a marketing venture between competitors in the same market. The Authority expects the parties to show a business justification for the alliance (for example, a capability that none of them has alone, spreading risk, or creating competitive pressure on a dominant player), why it is needed at this particular stage, and that there is no alternative that harms competition less. Companies that could have competed alone and joined together anyway are exposed.

Ending the consortium

At the end of the project an orderly closing process is needed: a final settlement of accounts of income and expenses, dividing the profit or loss under the agreement, releasing guarantees, handing over documents and work products, and dealing with the defects liability and warranty period toward the client, which continues even after the project ends. A member who leaves before the end needs a release from the others, and must make sure the client releases it expressly; without the client’s consent, leaving the internal agreement does not release it from its obligation toward the client. The legal tools for an orderly ending are described in the guide to rescission of a contract, and more guides are in the commercial contracts information hub.

Frequently asked questions

Are consortium members liable for each other’s debts?

The default is yes: if the consortium is considered a partnership, section 20 of the Partnerships Ordinance sets joint and several liability, and if not, section 54 of the Contracts Law creates a similar presumption when several parties are bound by one obligation. To change this toward the client, you need an express provision in the contract with the client; the internal agreement governs only the indemnity between the members.

Do you have to set up a company to operate as a consortium?

No. You can operate on the basis of an agreement only, and this is what is done in most tenders. A special purpose company limits liability and organizes the management, but it is more expensive, and in large projects the client usually demands guarantees from the parent companies anyway.

May two competitors submit a joint bid in a tender?

Not always. Under opinion 1/21 of the Israel Competition Authority, an alliance between competitors for a tender may be a restrictive arrangement, unless it has a real business justification and there is no alternative that harms competition less. A company that could have competed alone should be especially careful.