Masterful Negotiating, 2nd Edition - FNC Roundtable · Masterful Negotiating, 2nd Edition ... 3-D...

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C O L L E C T I O N

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3-D Negotiation: Playing the Whole Game

by David A. Lax and James K. Sebenius

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Six Habits of Merely Effective Negotiators

by James K. Sebenius

28

Getting Past Yes: Negotiating as if Implementation

Mattered

by Danny Ertel

40

Negotiating the Spirit of the Deal

by Ron S. Fortgang, David A. Lax, and James K. Sebenius

Masterful Negotiating, 2nd Edition

Your deal looks brilliant on paper. But will it work

in practice?

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Collection Overview The Articles

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You know negotiating is tricky business. Despite your savviest efforts at the bar-gaining table, you may end up holding the short end of the stick. And even if you seal a deal that looks brilliant on paper, the whole thing can fall apart when you start implementing your agreement.

How to strike deals that create real value for your company? This

Harvard Business Review

OnPoint collection offers four strategies:

•

Before you even sit down at the bar-gaining table, actively

shape the set-up

of the deal. Work behind the scenes to ensure that the right parties are ap-proached in the right order and about the right issues.

•

Once you’re at the table, let the other guy have

your

way.

Understand your counterpart’s priorities

, then shape his decisions so he chooses what

you

want because it’s in

his

interest, too.

•

Cultivate an implementation mind-set.

While bargaining, focus less on closing deals and more on establishing successful long-term relationships. With the other party, brainstorm the practical implications of your agree-ment—and devise strategies for suc-cessful implementation.

•

Attend to the spirit of the deal

—tacit assumptions about the “what” and “how” of your agreement. Is this a one-time transaction or long-term partner-ship? How will you and your counter-part work together, communicate, and handle surprises

after

the ink on the contract has dried?

Apply these strategies, and you’ll leave the bargaining table with deals that look great on paper

and

work out brilliantly in practice.

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Article Summary

4


by David A. Lax and James K. SebeniusYou entered that negotiation with what you thought were four aces—only to walk out empty-handed. What went wrong? You likely focused your energy solely on playing the hand you were dealt at the bargaining table. So you missed a crucial dimension: the set-up of the negotiation itself. Next time, work behind the scenes, away from the table, to orches-trate the set-up. Choose who the players are, when they get involved, and which issues you’ll discuss with whom. Your goal? To maneuver

before

the game—and occupy high ground when the playing starts.

15

Further Reading

17

Article Summary

18


by James K. SebeniusAll negotiations have one purpose: getting the other side to choose what

you

want—but for their own reasons. Yet owing to common mistakes, even seasoned negotiators sometimes bungle deals. Sebenius defines and explains how to avoid these pitfalls—including failing to understand the other party’s priorities, letting price bulldoze other interests, and falling prey to perceptual biases (for example, painting your side with positive qualities while vilifying your “opponent”).

27

Further Reading

29

Article Summary

30

Getting Past Yes: Negotiating as if Implementation Mattered

by Danny ErtelA deal’s value comes not from signatures on a document but from the real work performed long after the ink has dried. To ensure a workable agreement, address implementation

dur-ing

the bargaining. Discuss the deal’s practical implications, so neither party promises some-thing they can’t deliver. Ensure that both sides’ stakeholders support the agreement. Com-municate a consistent message about the deal’s terms and purpose to both parties’ implementation teams.

39

Further Reading

41

Article Summary

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by Ron S. Fortgang, David A. Lax, and James K. SebeniusThe best negotiators attend to the spirit of the deal—expectations about how their agree-ment will work in practice. They ask two questions: 1)

What

is our agreement’s nature and purpose? (Is this a short- or long-term deal? A discrete transaction or partnership?) 2)

How

will we work together? (How will we communicate? Resolve disputes? Handle surprises?) Unless parties concur on the spirit of the deal—and explicitly discuss their assumptions

before

inking a contract—agreements may sour once implementation begins.

52

Further Reading

1st article from the collection:

Masterful Negotiating, 2nd Edition

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3-D Negotiation

Playing the Whole Game


Included with this full-text


article:

The Idea in Brief—the core idea

The Idea in Practice—putting the idea to work

3

Article Summary

4


A list of related materials, with annotations to guide further

exploration of the article’s ideas and applications

15

Further Reading

Product 5372


3-D Negotiation


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The Idea in Brief The Idea in Practice

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Why didn’t those last deals work out the way you expected? You brilliantly followed all the rules in negotiation manuals: You built enormous goodwill. You demon-strated astute cultural sensitivity. And you unlocked hidden value for all parties. But you were still left empty-handed.

Like most of us, you may have waited too long to

start

negotiating. We’re trained to think that negotiation happens at the bar-gaining table—in the first dimension of in-terpersonal and process tactics—or at the drawing board—the second dimension, where the substance of the deal is hashed out. But by the time parties are sitting down to hammer out an agreement, most of the game has already been played.

That’s why savvy 3-D negotiators work be-hind the scenes, away from the table, both before and during negotiations to set (and reset) the bargaining table. They make sure that all the right parties are approached in the right order to deal with the right issues at the right time.

3-D moves help you engineer deals that would otherwise be out of tactical reach. Rather than playing the hand you’re dealt, you reshape the scope and sequence of the entire negotiation to your best advantage.

In addition to skillfully handling tactical and substantive challenges, consider these guide-lines to 3-D negotiation:

SCAN WIDELY

Search beyond the existing deal on the table to find complementary capabilities and value that other players might add. Ask such ques-tions as: Who, outside the existing deal, might most value aspects of it? Who might supply a piece missing from the current process? Who might minimize the costs of production or distribution?

This process will identify all the actual and po-tential parties and crucial relationships among them, such as who influences whom, who de-fers to whom, who owes what to whom.

Example:

When WebTV Networks was launching, founder Steve Perlman obtained seed funding, developed the technology, cre-ated a prototype, and hired his core team. But in order to turn the start-up into a self-sustaining company, he needed more capi-tal and broader capabilities. So he identified potential partners in many fields: Internet service providers, content providers, con-sumer-electronics businesses, manufactur-ers, distributors.

MAP BACKWARD AND SEQUENCE

The logic of backward mapping is similar to project management: You begin with the end point and work back to the present to de-velop a critical path. In negotiation, the com-pleted “project” is a set of agreements among a coalition of parties.

To start, identify what you’d ideally like to hap-pen. Then, determine who must sign on to make your vision a reality. Often, approaching the most difficult—and most critical—part-ners

first

offers slim chances for a deal. Instead, figure out which partners you need to have

on board

before

you initiate negotiations with your most crucial partners.

Example:

Even though WebTV badly needed capital, Perlman didn’t approach obvious inves-tors immediately. He knew that VCs were skeptical of consumer electronics deals, so he mapped backward from his VC target. Since VCs would be more apt to fund his company if a prominent consumer elec-tronics company were already on board, he first forged a deal with Phillips and then used that deal to sign up Sony, as well. When he finally approached VCs, he was able to negotiate new venture money at a higher valuation.

MANAGE INFORMATION FLOW

How you tailor your message to each poten-tial partner can dramatically alter the outcome of your negotiation. Timing is vital: Decide which stages of the negotiation process should be public, which private, and how much information from one stage you should convey at other stages.

3-D Negotiation



harvard business review • november 2003 page 4

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Savvy negotiators not only play their cards well, they design the game

in their favor even before they get to the table.

What stands between you and the yes youwant? In our analysis of hundreds of negotia-tions, we’ve uncovered barriers in three com-plementary dimensions: The first is tactics; thesecond is deal design; and the third is setup.Each dimension is crucial, but many negotia-tors and much of the negotiation literature fix-ate on only the first two.

For instance, most negotiation books focuson how executives can master tactics—interac-tions at the bargaining table. The commonbarriers to yes in this dimension include a lackof trust between parties, poor communication,and negotiators’ “hardball” attitudes. So thebooks offer useful tips on reading body lan-guage, adapting your style to the bargainingsituation, listening actively, framing your casepersuasively, deciding on offers and counterof-fers, managing deadlines, countering dirtytricks, avoiding cross-cultural gaffes, and so on.

The second dimension, that of deal de-sign—or negotiators’ ability to draw up a dealat the table that creates lasting value—also re-ceives attention. When a deal does not offer

enough value to all sides, or when its structurewon’t allow for success, effective 2-D negotia-tors work to diagnose underlying sources ofeconomic and noneconomic value and thencraft agreements that can unlock that valuefor the parties. Does some sort of trade be-tween sides make sense and, if so, on whatterms? Should it be a staged agreement, per-haps with contingencies and risk-sharing provi-sions? A deal with a more creative concept andstructure? One that meets ego needs as well aseconomic ones?

Beyond the interpersonal and deal designchallenges executives face in 1-D and 2-D nego-tiations lie the 3-D obstacles—flaws in the ne-gotiating setup itself. Common problems inthis often-neglected third dimension includenegotiating with the wrong parties or aboutthe wrong set of issues, involving parties in thewrong sequence or at the wrong time, as wellas incompatible or unattractive no-deal op-tions. 3-D negotiators, however, reshape thescope and sequence of the game itself toachieve the desired outcome. Acting entrepre-

3-D Negotiation


neurially, away from the table, they ensurethat the right parties are approached in theright order to deal with the right issues, by theright means, at the right time, under the rightset of expectations, and facing the right no-deal options.

Former U.S. trade representative CharleneBarshefsky, who has negotiated with hundredsof companies, governments, and nongovern-mental organizations to spearhead deals ongoods, services, and intellectual property, char-acterizes successful 3-D negotiations this way:“Tactics at the table are only the cleanupwork. Many people mistake tactics for the un-derlying substance and the relentless effortsaway from the table that are needed to set upthe most promising possible situation once youface your counterpart. When you know whatyou need and you have put a broader strategyin place, then negotiating tactics will flow.”

1

3-D Negotiation in Practice

Even managers who possess superior inter-personal skills in negotiations can fail whenthe barriers to agreement fall in the 3-Drealm. During the 1960s, Kennecott Copper’slong-term, low-royalty contract governing itshuge El Teniente mine in Chile was at highrisk of renegotiation; the political situationin Chile had changed drastically since thecontract was originally drawn up, renderingthe terms of the deal unstable. Chile hadwhat appeared to be a very attractive walk-away option—or in negotiation lingo, aBATNA (best alternative to negotiated agree-ment). By unilateral action, the Chilean gov-ernment could radically change the financialterms of the deal or even expropriate themine. Kennecott’s BATNA appeared poor:Submit to new terms or be expropriated.

Imagine that Kennecott had adopted a 1-Dstrategy focusing primarily on interpersonalactions at the bargaining table. Using that ap-proach, Kennecott’s management team wouldassess the personalities of the ministers withwhom it would be negotiating. It would try tobe culturally sensitive, and it might choose ele-gant restaurants in which to meet. Indeed,Kennecott’s team did take such sensible ac-tions. But that approach wasn’t promisingenough given the threatening realities of thesituation. Chile’s officials seemed to hold allthe cards: They didn’t need Kennecott to runthe mine; the country had its own experienced

managers and engineers. And Kennecott’shands seemed tied: It couldn’t move the cop-per mine, nor did it have a lock on down-stream processing or marketing of the valuablemetal, nor any realistic prospect, as in a previ-ous era, of calling in the U.S. fleet.

Fortunately for Kennecott, its negotiatorsadopted a 3-D strategy and set up the impend-ing talks most favorably. The team took sixsteps and changed the playing field altogether.First, somewhat to the government’s surprise,Kennecott offered to sell a majority equity in-terest in the mine to Chile. Second, to sweetenthat offer, the company proposed using theproceeds from the sale of equity, along withmoney from an Export-Import Bank loan, to fi-nance a large expansion of the mine. Third, itinduced the Chilean government to guaranteethis loan and make the guarantee subject toNew York state law. Fourth, Kennecott insuredas much as possible of its assets under a U.S.guarantee against expropriation. Fifth, it ar-ranged for the expanded mine’s output to besold under long-term contracts with NorthAmerican and European customers. And sixth,the collection rights to these contracts weresold to a consortium of European, U.S., andJapanese financial institutions.

These actions fundamentally changed thenegotiations. A larger mine, with Chile as themajority owner, meant a larger and more valu-able pie for the host country: The proposalwould result in more revenue for Chile andwould address the country’s interest in main-taining at least nominal sovereignty over itsown natural resources.

Moreover, a broad array of customers, gov-ernments, and creditors now shared Ken-necott’s concerns about future politicalchanges in Chile and were highly skeptical ofChile’s capacity to run the mine efficientlyover time. Instead of facing the original negoti-ation with Kennecott alone, Chile now effec-tively faced a multiparty negotiation with play-ers who would have future dealings with thatcountry—not only in the mining sector butalso in the financial, industrial, legal, and pub-lic sectors. Chile’s original BATNA—to uncere-moniously eject Kennecott—was now far lessattractive than it had been at the outset, sincehurting Kennecott put a wider set of Chile’spresent and future interests at risk.

And finally, the guarantees, insurance, andother contracts improved Kennecott’s BATNA.

David A. Lax

([email protected]) is aprincipal of Lax Sebenius, a negotia-tion-strategy consulting firm in Con-cord, Massachusetts.

James K. Sebe-nius

([email protected]) is theGordon Donaldson Professor of Busi-ness Administration at Harvard Busi-ness School in Boston and a principal ofLax Sebenius. They are both membersof the Negotiation Roundtable forumat Harvard Business School and the au-thors of

3-D Negotiation: Creatingand Claiming Value for the LongTerm,

forthcoming from Harvard Busi-ness School Press.

mailto:[email protected]


3-D Negotiation


If an agreement were not reached and Chileacted to expropriate the operation, Kennecottwould have a host of parties on its side.Though the mine was ultimately nationalizedsome years later, Chile’s worsened alternativesgave Kennecott a better operating positionand additional years of cash flow comparedwith similar companies that did not take suchactions.

This case underscores our central message:Don’t just skillfully play the negotiating gameyou are handed; change its underlying designfor the better. It is unlikely that 1-D tactical orinterpersonal brilliance at the table—whetherin the form of steely gazes, culturally sensitiveremarks, or careful and considered listening toall parties—could have saved Kennecott fromits fundamentally adverse bargaining position.Yet the 3-D moves the company made awayfrom the table changed the negotiation’s setup(the parties involved, the interests they saw atstake, their BATNAs) and ultimately createdmore value for all involved—much of whichKennecott claimed for itself.

How 3-D Moves Work

Successful 3-D negotiators induce target play-ers to say yes by improving the proposed deal,enhancing their own BATNAs, and worseningthose of the other parties. 3-D players intend

such moves mainly to

claim

value for them-selves but also to

create

value for all sides.

Claiming Value.

3-D negotiators rely on sev-eral common practices in order to claim value,including soliciting outside offers or bringingnew players into the game, sometimes to createa formal or informal auction. After negotiatinga string of alliances and acquisitions thatvaulted Millennium Pharmaceuticals from asmall start-up in 1993 to a multibillion-dollarcompany less than a decade later, then–chiefbusiness officer Steve Holtzman explained therationale for adding parties to the negotiations:“Whenever we feel there’s a possibility of a dealwith someone, we immediately call six otherpeople. It drives you nuts, trying to juggle themall. But number one, it will change the percep-tion on the other side of the table. And numbertwo, it will change your self-perception. If youbelieve that there are other people who are in-terested, your bluff is no longer a bluff; it’s real.It will come across with a whole other level ofconviction.” (For more on Millennium, see“Strategic Deal-making at Millennium Phar-maceuticals,” HBS case no. 9-800-032.)

While negotiators should generally try toimprove their BATNAs, they should also beaware that some of the moves they makemight inadvertently worsen their walkawayoptions. For instance, several years ago, we

The Three Dimensions of Negotiation

Common Barriers

Interpersonal issues,poor communication,“hardball” attitudes

Lack of feasible or desirable agreements

Parties, issues, BATNAs,and other elementsdon’t support a viableprocess or valuableagreement

Focus

Tactics (people and processes)

Deal design (value and substance)

Setup (scope and sequence)

Approach

Act “at the table” to improve interpersonalprocesses and tactics

Go “back to the drawingboard” to design dealsthat unlock value thatlasts

Make moves “away from the table” to create a more favorable scopeand sequence

Our research shows that negotiations succeed or fail based on the attention executives

pay to three common dimensions of deal making.

1-D

2-D

3-D

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3-D Negotiation


worked with a U.S. manufacturing firm on itsjoint-venture negotiations in Mexico. The com-pany had already researched possible culturalbarriers and ranked its three potential partnersaccording to the competencies it found mostdesirable in those companies. After approach-ing the negotiations in a culturally sensitivespirit, and in what had seemed a very logicalsequence, the U.S. team had neverthelesscome to an impasse with the most attractivepartner. The team abandoned those talks andwas now deep into the process with the secondmost desirable candidate—and again, thingswere going badly. Imagine subsequent negoti-ations with the third, barely acceptable, part-ner if the second set of talks had also foun-dered—in an industry where all would quicklyknow the results of earlier negotiations.

As each set of negotiations failed, the U.S.firm’s BATNA—a deal with another Mexicancompany or no joint venture at all—becameprogressively worse. Fortunately, the U.S.company opened exploratory discussionswith the third firm in parallel with the sec-ond. This helped the U.S. company to dis-cover which potential partner actually madethe most business sense, to avoid closing op-tions prematurely, and to take advantage ofthe competition between the Mexican com-panies. The U.S. business should have ar-ranged the process so that the prospect of adeal with the most desirable Mexican partnerwould function as its BATNA in talks with thesecond most desirable partner, and so on. Inshort, doing so would have created the equiv-alent of a simultaneous four-party negotia-tion (structured as one U.S. firm negotiatingin parallel with each of the three Mexicanfirms) rather than three sequential two-partynegotiations. This more promising 3-D setupwould have greatly enhanced whatever 1-Dcultural insight and tactical ingenuity theU.S. firm could muster.

In addition to strengthening their own posi-tion, 3-D negotiators who add parties and is-sues to a deal can weaken the other side’sBATNA. For instance, when Edgar Bronfman,former CEO of Seagram’s and head of theWorld Jewish Congress, first approached Swissbanks asking them to compensate Holocaustsurvivors whose families’ assets had been un-justly held since World War II, he felt stone-walled. Swiss banking executives saw no rea-son to be forthcoming with Bronfman; they

believed they were on strong legal ground be-cause the restitution issue had been settledyears ago. But after eight months of lobbyingby Bronfman, the World Jewish Congress, andothers, the negotiations were dramatically ex-panded—to the detriment of the Swiss. Thebankers faced a de facto coalition of intereststhat credibly threatened the lucrative Swissshare of the public finance business in statessuch as California and New York. They facedthe divestiture by huge U.S. pension funds ofstock in Swiss banks as well as in all Swiss-based companies; a delay in the merger be-tween Swiss Bank and UBS over the “characterfitness” license vital to doing business in NewYork; expensive and intrusive lawsuits broughtby some of the most formidable U.S. class-ac-tion attorneys; and the wider displeasure ofthe U.S. government, which had become ac-tive in brokering a settlement.

Given the bleak BATNA the Swiss bankersfaced, it’s hardly surprising that the partiesreached an agreement, including a commit-ment from the Swiss bankers to pay $1.25 bil-lion to survivors. It was, however, an almostunimaginable outcome at the beginning of thesmall, initially private game in which the Swissseemed to hold all the cards.

Another way for negotiators to claim valueis to shift the issues under discussion and theinterests at stake. Consider how Microsoft wonthe browser war negotiations. In 1996, AOLwas in dire need of a cutting-edge Internetbrowser, and both Netscape and Microsoftwere competing for the deal. The technicallysuperior, market-dominant Netscape Naviga-tor vied with the buggier Internet Explorer,which was then struggling for a market foot-hold but was considered by Bill Gates to be astrategic priority. A confident, even arrogant,Netscape pushed for a technically based“browser-for-dollars” deal. In the book

aol.com,

Jean Villanueva, a senior AOL executive, ob-served, “The deal was Netscape’s to lose. Theywere dominant. We needed to get what themarket wanted. Most important, we saw our-selves as smaller companies fighting the samefoe—Microsoft.”

But when all was said and done, it was Mi-crosoft that had etched a deal with AOL. Thesoftware giant would provide Explorer to AOLfor free and had promised a series of technicaladaptations in the future. Microsoft had alsoagreed that AOL client software would be bun-

3-D Negotiation


dled with the new Windows operating system.Microsoft—a direct competitor to AOL—

would place the AOL icon on the Windowsdesktop right next to the icon for its own on-line service, the Microsoft Network (MSN).AOL’s position on “the most valuable desktopreal estate in the world” would permit it toreach an additional 50 million people per yearat effectively no cost, compared with its $40 to$80 per-customer acquisition cost incurred by“carpet bombing” the country with AOL disks.In effect, Bill Gates sacrificed the medium-term position of MSN to his larger goal of win-ning the browser war.

How did 3-D moves swing the negotia-tions in Microsoft’s favor? Microsoft’s Webbrowser was technically inferior toNetscape’s, so the chances of Microsoft win-ning on those grounds were poor, regardlessof its negotiating skills and tactics at the ta-ble. Instead, Microsoft shifted the negotia-tions from Netscape’s technical browser-for-dollars deal toward wider business issues onwhich it held a decisive edge. Rather thanfocus on selling to the technologists, Mi-crosoft concentrated on selling to AOL’sbusinesspeople. As AOL’s lead negotiatorand head of business development, DavidColburn, stated in his deposition to the Su-preme Court in 1998, “The willingness of Mi-crosoft to bundle AOL in some form with theWindows operating system was a criticallyimportant competitive factor that was im-possible for Netscape to match.” Instead oftrying to skillfully play a poor hand whendealing with party X on issues A and B, Mi-crosoft changed the game toward a morecompatible counterpart Y, emphasizing is-sues C, D, and E, on which it was strong.

These examples of 3-D value-claimingmoves conflict with the standard 1-D interper-sonal approach to negotiation. Actions takenaway from the table—sharply altering partiesand issues, restructuring and resequencing theprocess, changing BATNAs—are not primarilyabout 1-D interpersonal skills but rather aboutenhancing the underlying setup of the negotia-tion itself.

Creating Value.

By adding complementaryparties or issues to the negotiating process, 3-D negotiators can not only claim value forthemselves but also create more value for allparties involved. In

Co-opetition,

their influen-tial book on business strategy, Adam Branden-

burger and Barry Nalebuff explored the con-cept of the

value net,

or the collection ofplayers whose potential combination andagreement can create value. 3-D negotiatorsoften facilitate in the development of suchvalue nets. They scan beyond their specifictransactions for compatible players with com-plementary capabilities or valuations, andthey craft agreements that profitably incorpo-rate these players.

The world of foreign affairs offers many ex-amples in which potentially valuable bilateraldeals can be impossible unless a third party withcomplementary interests is included. In a 1985issue of

Negotiation Journal,

University of Tor-onto professor and international negotiationspecialist Janice G. Stein wrote the followingabout the importance of Henry Kissinger’s 3-Drole in a crucial Middle East negotiation: “Thecircular structure of payment was essential topromoting agreement among the parties. Egyptimproved the image of the United States in theArab world, especially among the oil-producingstates; the United States gave Israel largeamounts of military and financial aid; and Israelsupplied Egypt with territory. Indeed, a bilateralexchange between Egypt and Israel would nothave succeeded since each did not want whatthe other could supply.”

In an example from the business world, theowners of a niche packaging company with aninnovative technology and a novel productwere deep in price negotiations to sell thecompany to one of three potential buyers, allof them larger packaging operations. Insteadof mainly working with its bankers to makethe case for a higher valuation and to refine itsat-the-table tactics with each packaging indus-try player, the niche player took a 3-D ap-proach. Its broader analysis suggested that oneof its major customers, a large consumer goodsfirm, might particularly value having exclusiveaccess to the niche player’s technologies andpackaging products, so it brought the con-sumer goods firm into the deal. The move un-covered a completely new source of potentialvalue—and a much higher potential sellingprice. It also increased the pressure on thelarger packaging companies: They would facemore competition and might not be able offerthe same kind of exclusive, customized packag-ing service to their customers.

The potential elements of a value net arenot always obvious at the start of a negotia-

Microsoft shifted the

negotiations from

Netscape’s technical

browser-for-dollars deal

toward wider business

issues on which it held a

decisive edge.

3-D Negotiation


Mapping Backward to Yes

What does a sophisticated 3-D strategy look like? Consider the experience of Henry Iverson and his partners, who acquired Concord Pulp and Paper (CPP) for $8.5 million in a highly leveraged transaction. (All company names and details have been disguised.) After the basic deal was done, they needed additional financing to make profitable improvements at CPP. Federal Street Bank (FSB) turned them down flat, even after they had used such 1-D tactics as persuasive appeals and elegant lunches. It was time to move into the 3-D realm.

But first, some background. To acquire CPP from its creditors, Iverson and his partners had put up $700,000 in equity and obtained $7.8 million in financing from FSB, consisting of a $1.3 million short-term loan against receivables and a $6.5 million loan against assets. Soon after, the opportunity arose for CPP to add a recovery boiler, which would increase plant capacity by 100 tons a day, improve overall quality and margins, and boost yearly net cash flow by $4.1 million. The boiler would cut CPP’s emissions in its host town of Concord by 95%. Over a two-year construction period, the boiler project would cost $9 million, $6 million of which would go to Bathurst and Felson Engineering (BFE) and the rest to smaller contractors.

The FSB loan officer who delivered the bad news cited the bank’s policies: “We will loan against 50% of unencumbered in-ventory and 80% of receivables. CPP has neither, and its capital structure is already 93% leveraged.” When Iverson pressed, he was told that if he had more equity, FSB might consider a short-term construction loan—but only if a credible third party would provide guaranteed takeout financing after two years. So Iverson used 3-D negotiating tactics to scan widely and map backward from his current predicament to establish the prior agreements (with as-yet uninvolved parties) that would maxi-mize the chances of an ultimate yes from the bank.

1.

Involve UIC.

Iverson approached two insurance companies for takeout fi-nancing. Unified Insurance Company (UIC) had the most attractive fee struc-ture; Worldwide Insurance had higher fees and was uninterested. Both flatly stated, “CPP is too leveraged.” More-over, UIC would only lend against the cash flow of fully completed projects. Iverson coaxed a deal letter from UIC: For a commitment fee plus a share of in-creased profits from the boiler, Unified agreed to lend, conditional on the suc-cessful completion of the project—and more equity in CPP’s capital structure.

2.

Involve the EDA.

Iverson’s at-tempts to raise more equity from in-vestors failed, so he dug further and learned that the U.S. Economic Devel-opment Administration (EDA) could make junior (subordinated) loans to firms for certified job-creating projects; the overall loan limit was equal to the number of jobs times $50,000. Since the recovery boiler project would generate at least 30 new full-time jobs, this implied a jun-

ior loan of up to $1.5 million. How-ever, the EDA loan had to be 50% matched by a Local Development Ad-ministration (LDA), which did not exist in Concord.

At this point, Iverson took stock of the barriers: the engineer wouldn’t proceed without money and, in any case, wouldn’t guarantee more than the boiler itself—the only thing BFE would build. The rest of the required system would be complex. Local and regional contractors were in no posi-tion to guarantee the overall project. FSB wouldn’t do a construction loan without guaranteed takeout financing and more equity. UIC wouldn’t do per-manent takeout financing without a successful project and more equity. The EDA wouldn’t lend without matching funds from the LDA and a guarantee of a successful, certified, job-creating project. And there was no LDA to certify the jobs or provide matching funds.

3.

Involve the Town of Concord.

Undaunted, Iverson approached the

Concord Town Council and proposed that it form an LDA, which could raise matching funds, to facilitate the recov-ery boiler project. He argued that con-struction and operation of the project would create new jobs and dramati-cally cut CPP’s odors and pollution lev-els. And it would add at least $180,000 a year in property taxes if the new boiler were built. The council received these arguments favorably but, before committing, wanted assurances that the project would actually work.

4.

Involve Derano.

In great need of some plausible guarantee of project success, Iverson approached Derano, a large, national (bondable) engineer-ing, design, and project management firm. Derano expressed serious doubts about managing an already-designed project with BFE and local contractors in place. But by offering to pay above the normal fee, Iverson got Derano to manage the overall project and to give a nonrecourse performance “guaran-tee”—all conditional on CPP’s raising project financing.

3-D Negotiation


Bathurst and Felson

Engineering • funding

RecoveryBoiler

Project

Federal Street Bank

• more equity• guaranteed

takeout financing

Unified InsuranceCompany

• more equity• actual project

EconomicDevelopment

Administration• LDA• certified jobs• matching funds

Derano (national project

management firm)• funding

5

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starts negotiations for

funding here

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5.

Go back to Concord with Der-

ano deal.

Carrying Derano’s letter that gave the provisional guarantee, Iver-son revisited Concord’s Town Council, which agreed to create an LDA. The LDA would be instructed to issue bonds for $500,000, backed by tax rev-enue increases and presold to wealthy citizens, local and regional contrac-tors, and other area businesses. As a government entity, the LDA would also formally certify the expected suc-cessful job-creation impact of the re-covery-boiler project.

6.

Go back to the EDA with the De-

rano letter and the LDA commit-

ments.

Iverson approached the EDA, arm-in-arm with the Concord LDA, which brought matching fund commit-ments and its formal job certification

(along with Derano’s guarantee) of the boiler project. With this backing, EDA committed to a $1 million junior (sub-ordinated) loan (plus the $500,000 matching loan from Concord’s LDA)—all conditional on Iverson’s obtaining construction and long-term financing.

7.

Go back to UIC to modify its

“more equity” provision.

Iverson suc-cessfully negotiated with Unified In-surance to modify the “more equity” term of its commitment letter to in-clude junior debt, since the EDA–LDA subordinated debt met UIC’s real in-terest in a greater financial cushion for the UIC loan.

8.

Go back to FSB with Derano,

LDA and EDA commitments, and UIC

modification.

Returning to the bank,

Iverson argued that EDA–LDA loans would provide the functional equiva-lent of FSB’s requirement for more eq-uity. In making the case to the risk-averse loan officer, he tactfully noted that UIC, a “notoriously demanding creditor,” was willing to treat it as such to financially cushion UIC’s perma-nent financing. Surely that would be adequate to protect FSB’s brief two-year exposure. With this condition met—and given Derano’s perfor-mance “guarantee” and the LDA’s cer-tification—the bank agreed that UIC’s commitment letter met its interest in guaranteed takeout financing. FSB’s new construction-loan commitment unlocked the EDA–LDA money, which started funds flowing to Derano and BFE. And the project was launched.

3-D Negotiation


tion. For example, a U.S.–European conserva-tion group wished to preserve the maximumamount of rain-forest habitat in a SouthAmerican country. From membership contri-butions and foundation support, the conserva-tion group had U.S. dollars it could use (afterconverting the dollars to local currency at theofficial exchange rate) to buy developmentrights. The owner of the land and the conser-vation group negotiated hard and tentativelyagreed on an amount of rain forest to be pro-tected and a price per hectare based on localcurrency. But 3-D thinking ultimately im-proved the deal for all sides.

The host country was indebted in dollar-de-nominated bonds, which were trading at a 45%discount to their face value (given their per-ceived default risk). The country had to usescarce dollar-export earnings, needed for manypressing domestic purposes, to keep its debt-service obligations current; of course, interestpayments were determined by the face valueof the debt, not the bond discount. These factssuggested that more value could have beencreated by adding two other sets of players tothe initial negotiation between the landownerand the conservation group.

In this green variant of a debt-for-equityswap, the conservation group bought countrydebt from foreign holders at the prevailing45% discount. It then brought this debt to thecountry’s Central Bank and negotiated its re-demption for local currency at a premium be-tween the discounted value of the debt and itsfull-dollar face value (up to an 82% premiumover the discounted value). The conservationgroup then used this greater quantity of localcurrency from the Central Bank to buy moredevelopment rights from the landowner at asomewhat higher unit price.

This expanded four-party negotiation—se-quentially involving the conservation group,international bondholders, the Central Bank,and the landowner—benefited everyone morethan the best result possible in the initial nego-tiation between just the landowner and theconservation group. The bank was able to re-tire debt and cancel dollar-interest obligations,which were very costly to the country, usingcheaper (to it) local currency without export-ing more or diverting scarce export earnings.The conservation group was able to save morerain forest at the same dollar cost, and thelandowner got a higher price in a currency it

was better positioned to use.To find complementary parties and issues,

as the conservation group did, you should askquestions that focus on relative valuation.What uninvolved parties might highly value el-ements of the present negotiation? What out-side issues might be highly valued if they wereincorporated into the process? Are there anyparties outside the immediate negotiationsthat can bear part of the risk of the deal morecheaply than the current players?

On the other hand, it is sometimes neces-sary to shrink—or at least stage—the set of in-volved issues, interests, and parties in order tocreate value. For example, rather than enterinto a full multiparty process at the outset, anindustry association that wants to negotiate acertain set of standards may benefit from firstseeking agreement between a few dominantplayers, which would then serve as the basisfor a later deal among the wider group. Or, ne-gotiations to forge a multi-issue strategic alli-ance between two firms may be dramaticallysimplified by one side which instead proposesan outright acquisition.

Certainly, the form chosen for a transactioncan dramatically affect the complexity of nego-tiations and the value to be had. The plannedmerger of equals by Bell Atlantic and Nynexwould have required separate negotiationswith regulatory authorities in each of the 13states served by the companies. To avoid hav-ing to undergo politically charged negotiationsat 13 different tables, the parties changed thegame by creating a functionally equivalentstructure in which Bell Atlantic was the nomi-nal acquirer.

Indeed, it can be necessary to change theprocess, rather than the substance, of a negoti-ation. For example, two partners seeking toterminate their relationship may have diffi-culty determining exactly who gets what. Butthey may instead be able to agree to a specialmechanism like the “Texas shoot-out,” inwhich one side names a price at which itwould be either a buyer (of the other’s shares)or a seller (of its own shares) and the other sidemust respond. Often, changing the form of anegotiation by bringing in a skilled third-partymediator creates value. For example, two in-tensive mediation efforts by outside partieshelped to finally thaw the frozen negotiationsbetween Microsoft and the Justice Depart-ment. Many fundamentally different variants

3-D Negotiation


of mediation, arbitration, and other specialmechanisms exist, but all are options tochange the game itself rather than efforts tonegotiate more effectively by purely interper-sonal means.

Implementing a 3-D Negotiation Strategy

Sophisticated negotiators act in all three di-mensions to create and claim value. While 3-Dnegotiators should play the existing gamewell, as tacticians and deal designers, theyshould also act as entrepreneurs, seeking tocreate a more favorable target game. They cando so by scanning widely to identify possibleelements of a more favorable setup; “mappingbackward” from the most promising structurefor the deal to the current setup; and manag-ing and framing the flow of information to im-prove their odds of getting to yes.

Scan widely.

To act outside the box, onemust first look outside the box. By searchingbeyond the immediate deal on the table for el-ements of a potential value net, 3-D negotia-tors can retrain their focus on complementarycapabilities and valuations that other playersmight add. Useful game-changing questionsinclude: Who outside the existing deal mightmost value an aspect of it? Who might mini-mize the costs of production, distribution, riskbearing, and so on? Who might supply a piecemissing from the current process? Which is-sues promise mutual advantage? What de-vices might bring such potential value-creat-ing parties and issues into the deal? And atwhat point does complexity or conflict of in-terest between parties call for shrinking thescope of the negotiation? Scanning beyondthe current game to claim value normally fo-cuses on a parallel set of questions: Are thereadditional bidders or parties who could favor-ably alter BATNAs in other ways? Can certainissues be linked for leverage?

Such scanning should result in a map of allthe actual and potential parties (includingother interested groups within an organiza-tion, if necessary). You need to assess their ac-tual and potential interests and BATNAs, aswell as the difficulty and cost of gaining agree-ment with each party and the value of havingits support. Your map should also identify thecrucial relationships among the parties: whoinfluences whom, who tends to defer towhom, who owes what to whom, who would

find it costly to oppose an emerging agree-ment with key parties on board, and so on.

The founders of new ventures almost al-ways need to scan widely in order to con-struct the most promising sequence of dealsthat lead to a self-sustaining company. Con-sider the situation WebTV Networks founderSteve Perlman faced in the early and mid-1990s. He had obtained seed funding, devel-oped the technology to bring the Web to ordi-nary television sets, created a prototype, andhired his core team. Running desperately lowon cash, Perlman scanned widely and discov-ered an array of potential negotiating part-ners—ISPs, VCs, angel investors, industrialpartners, consumer-electronics businesses,content providers, manufacturers, wholesaleand retail distribution channels, foreign part-ners, and the like. He needed to engage in 3-Danalysis to determine the right subset of po-tential partners to create the most promisingdeals to build his company.

Map backward and sequence.

It is helpfulto think of the logic of backward mapping asbeing similar to the logic of project manage-ment. In deciding how to undertake a complexproject, you start with the end point and workback to the present to develop a time line andcritical path. In negotiation, however, the com-pleted “project” should be a set of value-creat-ing, sustainable agreements among a support-ive coalition of parties.

For instance, when Perlman’s WebTV wasalmost out of money, it might have seemed ob-vious that he should approach venture capitalfirms first. However, because VCs were deeplyskeptical of consumer-electronics deals at thattime, Perlman mapped backward from his VCtarget. He reasoned that a VC would findWebTV more appealing if a prominent con-sumer-electronics company were already onboard, so Perlman embarked on a sequentialstrategy. After his first choice, Sony, turnedhim down, Perlman kept reasoning backwardfrom his target. Finally, he was able to get Phil-lips on board. He then used Phillips to reopenand forge a complementary deal with Sony.Next he negotiated new venture money—at afar higher valuation—since both Sony andPhillips had signed on. With new money in thetank, it was fairly straightforward to thread apath of supporting agreements through manu-facturers, wholesale and retail distributionchannels, content providers, ISPs, and alliance

While 3-D negotiators

should play the existing

game well, as tacticians

and deal designers, they

should also act as

entrepreneurs.

3-D Negotiation


partners abroad.As the WebTV case suggests, a common

problem for a would-be coalition builder isthat approaching the most difficult—and per-haps most critical—party offers slim chancesfor a deal, either at all or on desirable terms.To improve the odds of getting to yes, figureout which partners you would ideally like tohave on board when you initiate negotiationswith the target party. As the answer to thisquestion becomes clear, you have identifiedthe penultimate stage. Continue mappingbackward until you have found the mostpromising sequence of discussions.

Consider the successful sequencing tacticsof Bill Daley, President Clinton’s strategist forsecuring congressional approval of the NorthAmerican Free Trade Agreement, as reportedin a 1993

New Yorker

article: “News might ar-rive that a representative who had been lean-ing toward yes had come out as a no. ‘Weenie,’[Daley would] say. When he heard the badnews, he did not take it personally.…He’d takemore calls. ‘Can we find the guy who can de-liver the guy? We have to call the guy whocalls the guy who calls the guy.’”

Beyond pure sequencing, the 3-D negotiatorcan use the scope of the negotiation—how ele-ments are added, subtracted, combined, orseparated—to influence the chances of bring-ing each party on board. Issues can be added tomake a deal more attractive (as Microsoft didwith AOL) or a BATNA less attractive (as hap-pened to the Swiss banks). And by not bringingon board a party to whom others have antipa-thy, negotiators can increase the probability oftheir success. That’s what James Baker didwhen building the first Gulf War coalition; byomitting Israel from explicit membership inthe group, he was able to attract moderateArab states.

Manage the information flow.

Some nego-tiations are best approached by gathering allaffected parties together, fully sharing infor-mation, and brainstorming a solution to theshared problem. Frequently, however, vital 3-D questions involve deciding which stages ofthe process should be public or private as wellas how information from one stage shouldspill over to or be framed at other stages.

A wry story illustrates the potential of suchchoices to set up a linked series of negotia-tions. A prominent diplomat once decided tohelp a charming and capable young man of

very modest background from Eastern Europe.Approaching the chairman of the state bank,the statesman indicated that “a gifted and am-bitious young man, soon to be the son-in-lawof Baron Rothschild,” was seeking a fast-trackposition in banking. Shortly thereafter, in aseparate conversation with the baron, whomhe knew to be searching for a suitable matchfor his daughter, the statesman enthusiasti-cally described a “handsome, very capableyoung man who was making a stellar ascent atthe state bank.” When later introduced to theyoung swain, the dutiful daughter found himcharming, with enviable talents and prospects,and acceptable to her father. When she saidyes, the three-way deal allegedly wentthrough—to everyone’s ultimate satisfaction.

Setting aside the dubious factual base andethics of this negotiation, notice how the diplo-mat’s 3-D actions set up the most promisinggame for his purposes. By separating and se-quencing the stages of the process, as well asopportunistically framing his message at eachjuncture, the statesman created a situationthat fostered an otherwise most unlikely out-come. Of course, had the banker, the baron,the daughter, and the young man been ini-tially thrown together in a face-to-face meet-ing, it is doubtful that even the statesman’ssuave 1-D approach could have closed the deal.

Analogously, potential investors should bewary of the common tactic of separating dealsto close both: for instance, getting investor Ato commit funds based on the commitment of“savvy investor” B, when B has indeed com-mitted, but only on the informal (and wrong)understanding that “reputable investor” A hasunconditionally agreed to do so.

Negotiations to assemble land for a real es-tate project offer another good example of theimportance of staging the release of informa-tion. Early knowledge of a developer’s planscan be quite valuable to landowners in the tar-get area. Since landowners may use this knowl-edge to extract maximum price concessions inlater stages of assembly, the need for secrecyand separation of the individual negotiations isusually obvious. Indeed, the choice of whichparcel to buy first, second, and so on, may de-pend on the relative odds that a given pur-chase will leak the developer’s intentions aswell as whether the parcels already obtainedwould permit some version of the project to goahead, or whether they would be useless with-

A 3-D player’s ability to

determine whether a

related negotiation

happens before or after

his own—as well as

whether the results

become public—can

greatly influence the

outcome.

3-D Negotiation


out a later acquisition.Indeed, a 3-D player’s ability to determine

whether a related negotiation happens beforeor after his own—as well as whether the re-sults become public—can greatly influence theoutcome. For example, according to a 1985 ar-ticle in

International Studies Quarterly,

whilethe United States was in separate talks with Ja-pan, Hong Kong, and Korea over textile tradeagreements, a Korean negotiator told the U.S.representatives, “We’ll ask Hong Kong to gofirst, then see what they get.” The Koreans ap-parently regarded Hong Kong officials ashighly skilled negotiators, with better lan-guage skills for dealing with the Americans. Anobserver reports that, “After waiting for HongKong and Japan to go first, Seoul asked for thefeatures they had secured and then also heldout for a bit more.” In essence, the order cho-sen by the Americans (as encouraged by theKoreans) revealed information about the U.S.approach that was of great value to the Kore-ans. One wonders whether the Americansshould have rethought the sequence andstarted with Seoul.

• • •

That negotiators should be good listeners, per-suaders, and tacticians is a given. But beyond

perfecting these 1-D skills, negotiators shouldalso be innovative 2-D deal designers whohave mastered the principles for craftingvalue-creating agreements. And the third,often-missing dimension—actions taken tochange the scope and sequence of the gameitself—can be crucial to a negotiation thatwould otherwise be completely out of tacticalreach.

Negotiators must take care to keep sophisti-cated 3-D moves from blurring into the unethi-cal and manipulative. Yet without 3-D actions,coalitions vital to many worthy initiativescould never have been built.

To create and claim value for the long term,great negotiators should be at home in allthree dimensions. To do anything less is to riskplaying a one- or two-dimensional strategy in athree-dimensional world.

1. A complete set of sources for this article can be found atwww.people.hbs.edu/jsebenius/hbr/3-DNegotiation.pdf.

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Further ReadingA R T I C L E STurning Negotiation into a Corporate Capability by Danny ErtelHarvard Business ReviewMay–June 1999Product no. 5394

If one 3-D negotiator can achieve results that would have been impossible through “ordi-nary” negotiating tactics, imagine what a whole company of 3-D negotiators could do. Few companies think systematically about their negotiating activities as a whole. As a re-sult, individuals within a company treat each deal as a one-off, and often inadvertently un-dermine each other’s efforts. A creative re-sponse to one customer’s needs, for example, may unravel a broader product strategy. Ertel suggests a coordinated negotiation sys-tem: 1) Give bargainers more information about past negotiations and corporate priori-ties. 2) Define success in nonfinancial terms, such as better communication with suppliers. 3) Distinguish between deals and long-term relationships. 4) Walk away from a deal if a better alternative exists. With these principles, you’ll ensure each deal supports the com-pany’s goals.

Breakthrough Bargaining by Deborah M. Kolb and Judith WilliamsHarvard Business ReviewFebruary 2001Product no. 6080

When you’re setting the scope and sequence of your next negotiation, pay attention to the dynamics of the shadow negotiation—un-spoken assumptions that determine how bar-gainers deal with one another, whose opin-ions get heard, and whose interests hold sway. Shadow negotiations loom largest when bargainers hold unequal power—sub-ordinate/boss, new/veteran, male/female. If ignored, the shadow negotiation can stall deals. But the authors describe three types of moves that can get negotiations back on

track. Power moves coax reluctant bargainers to the table by offering explicit incentives for participating, putting a price on inaction, and enlisting support from higher-ups. Process moves help you shape negotiation agendas by seeding ideas early and building consen-sus. And appreciative moves foster trust and candor by highlighting common interests, helping others save face, and soliciting new perspectives.

Hidden Challenge of Cross-Border Negotiations by James K. SebeniusHarvard Business ReviewMarch 2002Product no. R0203F

In this article, Sebenius focuses on the culture-clash risk factor of international negotiation. Beyond surface behaviors such as table man-ners, and deeper characteristics such as atti-tudes toward deadlines, people from different cultures can vary widely in how they handle the negotiation process itself.

How to prepare for such differences? Sebe-nius explains how to map out your decision-making process—including who’s involved, what formal and informal roles people play, and how a resolution is achieved. Then you can design a 3-D strategy that anticipates ob-stacles before they arise—boosting your chances of achieving your desired outcome.

http://www.hbr.org





http://harvardbusinessonline.hbsp.harvard.edu/relay.jhtml?name=itemdetail&referral=4320&id=R0203F


2nd article from the collection: Masterful Negotiating, 2nd Edition

page 16



Included with this full-text Harvard Business Review article:



17 Article Summary

18 Six Habits of Merely Effective Negotiators



27 Further Reading

Product 9411



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High stakes. Intense pressure. Careless mis-takes. These can turn your key negotiations into disasters. Even seasoned negotiators bungle deals, leaving money on the table and damaging working relationships.

Why? During negotiations, six common mistakes can distract you from your real purpose: getting the other guy to choose what you want—for his own reasons.

Avoid negotiation pitfalls by mastering the art of letting the other guy have your way—everyone will win.

NEGOTIATION MISTAKES

Neglecting the other side’s problemIf you don’t understand the deal from the other side’s perspective, you can’t solve his problem or yours.

Example:A technology company that created a cheap, accurate way of detecting gas-tank leaks couldn’t sell its product. Why? EPA regulations permitted leaks of up to 1,500 gallons, while this new technology de-tected 8-ounce leaks. Fearing the device would spawn regulatory trouble, potential customers said, “No deal!”

Letting price bulldoze other interestsMost deals involve interests besides price:

• a positive working relationship, crucial in longer-term deals

• the social contract, or “spirit of the deal,” in-cluding goodwill and shared expectations

• the deal-making process—personal, re-spectful, and fair to both sides

Price-centric tactics leave these potential joint gains unrealized.

Letting positions drive out interestsIncompatible positions may mask compatible interests. Your gain isn’t necessarily your “op-ponent’s” loss.

Example:Environmentalists and farmers opposed a power company’s proposed dam. Yet com-patible interests underlay these seemingly irreconcilable positions: Farmers wanted water flow; environmentalists, wildlife pro-tection; the power company, a greener im-age. By agreeing to a smaller dam, water-flow guarantees, and habitat conservation, everyone won.

Searching too hard for common groundWhile common ground helps negotiations, different interests can give each party what it values most, at minimum cost to the other.

Example:An acquirer and entrepreneur disagree on the entrepreneurial company’s likely future. To satisfy their differing interests, the buyer agrees to pay a fixed amount now and con-tingent amount later, based on future per-formance. Both find the deal more attrac-tive than walking away.

Neglecting BATNABATNAs (“best alternative to a negotiated agreement”) represent your actions if the pro-posed deal weren’t possible; e.g., walk away, approach another buyer. Assessing your own and your partner’s BATNA reveals surprising possibilities.

Example:A company hoping to sell a struggling divi-sion for somewhat more than its $7 million value had two fiercely competitive bidders. Speculating each might pay an inflated price to trump the other, the seller ensured each knew its rival was looking. The divi-sion’s selling price? $45 million.

Failing to correct for skewed visionTwo forms of bias can prompt errors:

• Role bias—overcommitting to your own point of view and interpreting information in self-serving ways. A plaintiff believes he has a 70% chance of winning his case, while the defense puts the odds at 50%. Result? Unlikelihood of out-of-court settlement.

• Partisan perceptions—painting your side with positive qualities, while vilifying your “opponent.” Self-fulfilling prophecies may result.

Counteract these biases with role-plays of the opposition’s interests.



harvard business review • april 2001 page 18

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Like many executives, you know a lot about negotiating. But still you

fall prey to a set of common errors. The best defense is staying focused

on the right problem to solve.

Global deal makers did a staggering $3.3 tril-lion worth of M&A transactions in 1999—and that’s only a fraction of the capital thatpassed through negotiators’ hands that year.Behind the deal-driven headlines, executivesendlessly negotiate with customers and sup-pliers, with large shareholders and creditors,with prospective joint venture and alliancepartners, with people inside their companiesand across national borders. Indeed, wher-ever parties with different interests and per-ceptions depend on each other for results, ne-gotiation matters. Little wonder that BobDavis, vice chairman of Terra Lycos, has saidthat companies “have to make deal making acore competency.”

Luckily, whether from schoolbooks or theschool of hard knocks, most executives knowthe basics of negotiation; some are spectacu-larly adept. Yet high stakes and intense pres-sure can result in costly mistakes. Bad habitscreep in, and experience can further ingrainthose habits. Indeed, when I reflect on thethousands of negotiations I have participated

in and studied over the years, I’m struck byhow frequently even experienced negotiatorsleave money on the table, deadlock, damagerelationships, or allow conflict to spiral. (Formore on the rich theoretical understanding ofnegotiations developed by researchers over thepast fifty years, see the sidebar “AcademicsTake a Seat at the Negotiating Table.”)

There are as many specific reasons for badoutcomes in negotiations as there are individu-als and deals. Yet broad classes of errors recur.In this article, I’ll explore those mistakes, com-paring good negotiating practice with bad. Butfirst, let’s take a closer look at the right negoti-ation problem that your approach must solve.

Solving the Right Negotiation ProblemIn any negotiation, each side ultimately mustchoose between two options: accepting a dealor taking its best no-deal option—that is, thecourse of action it would take if the deal werenot possible. As a negotiator, you seek to ad-vance the full set of your interests by persuad-



ing the other side to say yes—and mean it—toa proposal that meets your interests betterthan your best no-deal option does. And whyshould the other side say yes? Because thedeal meets its own interests better than itsbest no-deal option. So, while protecting yourown choice, your negotiation problem is tounderstand and shape your counterpart’s per-ceived decision—deal versus no deal—so thatthe other side chooses in its own interest whatyou want. As Italian diplomat Daniele Varesaid long ago about diplomacy, negotiation is“the art of letting them have your way.”

This approach may seem on the surface likea recipe for manipulation. But in fact, under-standing your counterpart’s interests and shap-ing the decision so the other side agrees for itsown reasons is the key to jointly creating andclaiming sustainable value from a negotiation.Yet even experienced negotiators make sixcommon mistakes that keep them from solv-ing the right problem.

Mistake 1Neglecting the Other Side’s ProblemYou can’t negotiate effectively unless you un-derstand your own interests and your own no-deal options. So far, so good—but there’smuch more to it than that. Since the otherside will say yes for its reasons, not yours,agreement requires understanding and ad-dressing your counterpart’s problem as ameans to solving your own.

At a minimum, you need to understand theproblem from the other side’s perspective.Consider a technology company, whose boardof directors pressed hard to develop a hot newproduct shortly after it went public. The com-pany had developed a technology for detectingleaks in underground gas tanks that was bothcheaper and about 100 times more accuratethan existing technologies—at a time whenthe Environmental Protection Agency was per-suading Congress to mandate that these tanksbe continuously tested. Not surprisingly, thedirectors thought their timing was perfect andpushed employees to commercialize and mar-ket the technology in time to meet the de-mand. To their dismay, the company’s firstsale turned out to be its only one. Quite a mys-tery, since the technology worked, the productwas less expensive, and the regulations didcome through. Imagine the sales engineers

confidently negotiating with a customer for anew order: “This technology costs less and ismore accurate than the competition’s.” Thinkfor a moment, though, about how intendedbuyers might mull over their interests, espe-cially given that EPA regulations permittedleaks of up to 1,500 gallons while the new tech-nology could pick up an 8-ounce leak. Poten-tial buyer: “What a technological tour deforce! This handy new device will almost cer-tainly get me into needless, expensive regula-tory trouble. And create P.R. problems too. Ithink I’ll pass, but my competition should defi-nitely have it.” From the technology com-pany’s perspective, “faster, better, cheaper”added up to a sure deal; to the other side, itlooked like a headache. No deal.

Social psychologists have documented thedifficulty most people have understanding theother side’s perspective. From the trenches,successful negotiators concur that overcomingthis self-centered tendency is critical. As Mil-lennium Pharmaceuticals’ Steve Holtzman putit after a string of deals vaulted his companyfrom a start-up in 1993 to a major player with a$10.6 billion market cap today, “We spend a lotof time thinking about how the poor guy orwoman on the other side of the table is goingto have to go sell this deal to his or her boss.We spend a lot of time trying to understandhow they are modeling it.” And Wayne Hui-zenga, veteran of more than a thousand dealsbuilding Waste Management, AutoNation,and Blockbuster, distilled his extensive experi-ence into basic advice that is often heard buteven more often forgotten. “In all my years ofdoing deals, a few rules and lessons haveemerged. Most important, always try to putyourself in the other person’s shoes. It’s vital totry to understand in depth what the other sidereally wants out of the deal.”

Tough negotiators sometimes see the otherside’s concerns but dismiss them: “That’s theirproblem and their issue. Let them handle it.We’ll look after our own problems.” This atti-tude can undercut your ability to profitably in-fluence how your counterpart sees its prob-lem. Early in his deal-making career at CiscoSystems, Mike Volpi, now chief strategy of-ficer, had trouble completing proposed deals,his “outward confidence” often mistaken forarrogance. Many acquisitions later, a colleagueobserved that “the most important part of[Volpi’s] development is that he learned power

James K. Sebenius is the GordonDonaldson Professor of Business Ad-ministration at Harvard Business Schoolin Boston, where he led the creation ofthe negotiation unit. He helped foundand worked at the Blackstone Group, aNew York investment banking and pri-vate equity firm. He is coauthor withDavid Lax of the forthcoming book 3-DNegotiation: Creating and ClaimingValue for the Long Term.



doesn’t come from telling people you are pow-erful. He went from being a guy driving thedeal from his side of the table to the guy whounderstood the deal from the other side.”

An associate of Rupert Murdoch remarkedthat, as a buyer, Murdoch “understands theseller—and, whatever the guy’s trying to do,he crafts his offer that way.” If you want tochange someone’s mind, you should first learnwhere that person’s mind is. Then, together,you can try to build what my colleague BillUry calls a “golden bridge,” spanning the gulfbetween where your counterpart is now andyour desired end point. This is much more ef-fective than trying to shove the other sidefrom its position to yours. As an eighteenth-century pope once noted about Cardinal dePolignac’s remarkable diplomatic skills, “Thisyoung man always seems to be of my opinion[at the start of a negotiation], and at the end ofthe conversation I find that I am of his.” Inshort, the first mistake is to focus on your ownproblem, exclusively. Solve the other side’s asthe means to solving your own.

Mistake 2Letting Price Bulldoze Other InterestsNegotiators who pay attention exclusively toprice turn potentially cooperative deals intoadversarial ones. These “reverse Midas” nego-tiators, as I like to call them, use hard-bargain-ing tactics that often leave potential joint

gains unrealized. That’s because, while price isan important factor in most deals, it’s rarelythe only one. As Felix Rohatyn, former man-aging partner of the investment bank, LazardFrères, observed, “Most deals are 50% emo-tion and 50% economics.”

There’s a large body of research to supportRohatyn’s view. Consider, for example, a sim-plified negotiation, extensively studied in aca-demic labs, involving real money. One party isgiven, say, $100 to divide with another party asshe likes; the second party can agree or dis-agree to the arrangement. If he agrees, the$100 is divided in line with the first side’s pro-posal; if not, neither party gets anything. Apure price logic would suggest proposingsomething like $99 for me, $1 for you. Al-though this is an extreme allocation, it still rep-resents a position in which your counterpartgets something rather than nothing. Pure pricenegotiators confidently predict the other sidewill agree to the split; after all, they’ve been of-fered free money—it’s like finding a dollar onthe street and putting it in your pocket. Whowouldn’t pick it up?

In reality, however, most players turn downproposals that don’t let them share in at least35% to 40% of the bounty—even when muchlarger stakes are involved and the amount theyforfeit is significant. While these rejections are“irrational” on a pure price basis and virtuallyincomprehensible to reverse Midas types, stud-ies show that when a split feels too unequal to

Academics Take a Seat at the Negotiating TableParalleling the growth in real-world negotia-tion, several generations of researchers have deepened our understanding of the process. In the 1950s and 1960s, elements of hard (win-lose) bargaining were isolated and refined: how to set aggressive targets, start high, concede slowly, and employ threats, bluffs, and commitments to posi-tions without triggering an impasse or esca-lation. By the early 1980s, with the win-win revolution popularized by the book Getting

to Yes (by Roger Fisher, William Ury, and Bruce Patton), the focus shifted from bat-tling over the division of the pie to the means of expanding it by uncovering and reconciling underlying interests. More so-phisticated analysis in Howard Raiffa’s Art

and Science of Negotiation soon transcended this simplistic “win-win versus win-lose” de-bate; the pie obviously had to be both ex-panded and divided. In The Manager as Ne-

gotiator (by David Lax and James Sebenius), new guidance emerged on productively managing the tension between the coopera-tive moves necessary to create value and the competitive moves involved in claiming it. As the 1990s progressed with work such as Negotiating Rationally (by Max Bazerman and Margaret Neale), the behavioral study of negotiation—describing how people ac-tually negotiate—began to merge with the game theoretic approach, which prescribed how fully rational people should negotiate. This new synthesis—developing the best

possible advice without assuming strictly ra-tional behavior—is producing rich insights in negotiations ranging from simple two-party, one-shot, single-issue situations through complex coalitional dealings over multiple issues over time, where internal negotiations must be synchronized with ex-ternal ones. Negotiation courses that ex-plore these ideas have always been popular options at business schools, but reflecting the growing recognition of their impor-tance, these courses are beginning to be re-quired as part of MBA core programs at schools such as Harvard. Rather than a spe-cial skill for making major deals or resolving disputes, negotiation has become a way of life for effective executives.



people, they reject the spoils as unfair, are of-fended by the process, and perhaps try toteach the “greedy” person a lesson.

An important real-world message is embed-ded in these lab results: people care about muchmore than the absolute level of their own eco-nomic outcome; competing interests includerelative results, perceived fairness, self-image,reputation, and so on. Successful negotiators,acknowledging that economics aren’t every-thing, focus on four important nonprice factors.

The Relationship. Less experienced negoti-ators often undervalue the importance of de-veloping working relationships with the otherparties, putting the relationships at risk byoverly tough tactics or simple neglect. This isespecially true in cross-border deals. In much ofLatin America, southern Europe, and South-east Asia, for example, relationships—ratherthan transactions—can be the predominant ne-gotiating interest when working out longerterm deals. Results-oriented North Americans,Northern Europeans, and Australians oftencome to grief by underestimating the strengthof this interest and insisting prematurely thatthe negotiators “get down to business.”

The Social Contract. Similarly, negotiatorstend to focus on the economic contract—eq-uity splits, cost sharing, governance, and soon—at the expense of the social contract, orthe “spirit of a deal.” Going well beyond agood working relationship, the social contractgoverns people’s expectations about the na-ture, extent, and duration of the venture,about process, and about the way unforeseenevents will be handled. Especially in new ven-tures and strategic alliances, where goodwilland strong shared expectations are extremelyimportant, negotiating a positive social con-tract is an important way to reinforce eco-nomic contracts. Scurrying to check foundingdocuments when conflicts occur, which theyinevitably do, can signal a badly negotiated so-cial contract.

The Process. Negotiators often forget thatthe deal-making process can be as importantas its content. The story is told of the youngTip O’Neill, who later became Speaker of theHouse, meeting an elderly constituent on thestreets of his North Cambridge, Massachu-setts, district. Surprised to learn that she wasnot planning to vote for him, O’Neill probed,“Haven’t you known me and my family all mylife?” “Yes.” “Haven’t I cut your grass in sum-

mer and shoveled your walk in winter?” “Yes.”“Don’t you agree with all my policies and posi-tions?” “Yes.” “Then why aren’t you going tovote for me?” “Because you didn’t ask me to.”Considerable academic research confirmswhat O’Neill learned from this conversation:process counts. What’s more, sustainable re-sults are more often reached when all partiesperceive the process as personal, respectful,straightforward, and fair.1

The Interests of the Full Set of Players.Less experienced negotiators sometimes be-come mesmerized by the aggregate econom-ics of a deal and forget about the interests ofplayers who are in a position to torpedo it.When the boards of pharmaceutical giantsGlaxo and SmithKline Beecham publicly an-nounced their merger in 1998, investors werethrilled, rapidly increasing the combined com-pany’s market capitalization by a stunning$20 billion. Yet despite prior agreement onwho would occupy which top executive posi-tions in the newly combined company, inter-nal disagreement about management controland position resurfaced and sank the an-nounced deal, and the $20 billion evaporated.(Overwhelming strategic logic ultimatelydrove the companies back together, but onlyafter nearly two years had passed.) This epi-sode confirms two related lessons. First, whilefavorable overall economics are generally nec-essary, they are often not sufficient. Second,keep all potentially influential internal play-ers on your radar screen; don’t lose sight oftheir interests or their capacity to affect thedeal. What is “rational” for the whole may notbe so for the parts.

It can be devilishly difficult to cure the re-verse Midas touch. If you treat a potentially co-operative negotiation like a pure price deal, itwill likely become one. Imagine a negotiatorwho expects a hardball, price-driven process.She initiates the bid by taking a tough preemp-tive position; the other side is likely to recipro-cate. “Aha!” says the negotiator, her suspicionsconfirmed. “I knew this was just going to be atough price deal.”

A negotiator can often influence whetherprice will dominate or be kept in perspective.Consider negotiations between two companiestrying to establish an equity joint venture.Among other issues, they are trying to place avalue on each side’s contribution to determineownership shares. A negotiator might drive

People care about much

more than the absolute

level of their own

economic outcome;

competing interests

include relative results,

perceived fairness, self-

image, reputation, and

so on.



this process down two very different paths. Aprice-focused approach quickly isolates the val-uation issue and then bangs out a resolution.Alternatively, the two sides could first flesh outa more specific shared vision for the joint ven-ture (together envisioning the “pot of gold”they could create), probe to understand themost critical concerns of each side—includingprice—and craft trade-offs among the full setof issues to meet these interests. In the latterapproach, price becomes a component or evenan implication of a larger, longer term pack-age, rather than the primary focus.

Some negotiations are indeed pure pricedeals and only about aggregate economics, butthere is often much more to work with. Wisenegotiators put the vital issue of price in per-spective and don’t straitjacket their view of thericher interests at stake. They work with thesubjective as well as the objective, with theprocess and the relationship, with the “socialcontract” or spirit of a deal as well as its letter,and with the interests of the parts as well asthe whole.

Mistake 3Letting Positions Drive Out InterestsThree elements are at play in a negotiation.Issues are on the table for explicit agreement.Positions are one party’s stands on the issues.Interests are underlying concerns that wouldbe affected by the resolution. Of course, posi-tions on issues reflect underlying interests, butthey need not be identical. Suppose you’reconsidering a job offer. The base salary willprobably be an issue. Perhaps your position onthat issue is that you need to earn $100,000.The interests underlying that position includeyour need for a good income but may also in-clude status, security, new opportunities, andneeds that can be met in ways other than sal-ary. Yet even very experienced deal makersmay see the essence of negotiation as a danceof positions. If incompatible positions finallyconverge, a deal is struck; if not, the negotia-tion ends in an impasse. By contrast, interest-driven bargainers see the process primarily asa reconciliation of underlying interests: youhave one set of interests, I have another, andthrough joint problem solving we should bebetter able to meet both sets of interests andthus create new value.

Consider a dispute over a dam project. Envi-

ronmentalists and farmers opposed a U.S.power company’s plans to build a dam. Thetwo sides had irreconcilable positions: “abso-lutely yes” and “no way.” Yet these incompati-ble positions masked compatible interests. Thefarmers were worried about reduced waterflow below the dam, the environmentalistswere focused on the downstream habitat ofthe endangered whooping crane, and thepower company needed new capacity and agreener image. After a costly legal stalemate,the three groups devised an interest-drivenagreement that all of them considered prefera-ble to continued court warfare. The agreementincluded a smaller dam built on a fast track,water flow guarantees, downstream habitatprotection, and a trust fund to enhancewhooping crane habitats elsewhere.

Despite the clear advantages of reconcilingdeeper interests, people have a built-in bias to-ward focusing on their own positions instead.This hardwired assumption that our interestsare incompatible implies a zero-sum pie inwhich my gain is your loss. Research in psy-chology supports the mythical fixed-pie viewas the norm. In a survey of 5,000 subjects in 32negotiating studies, mostly carried out withmonetary stakes, participants failed to realizecompatible issues fully half of the time.2 Inreal-world terms, this means that enormousvalue is unknowingly left uncreated as bothsides walk away from money on the table.

Reverse Midas negotiators, for example, al-most automatically fixate on price and bar-gaining positions to claim value. After theusual preliminaries, countless negotiations getserious when one side asks, “so, what’s yourposition,” or says, “here’s my position.” Thispositional approach often drives the processtoward a ritual value-claiming dance. Great ne-gotiators understand that the dance of bar-gaining positions is only the surface game; thereal action takes place when they’ve probedbehind positions for the full set of interests atstake. Reconciling interests to create value re-quires patience and a willingness to researchthe other side, ask many questions, and listen.It would be silly to write off either price or bar-gaining position; both are extremely impor-tant. And there is, of course, a limit to jointvalue creation. The trick is to recognize andproductively manage the tension between co-operative actions needed to create value andcompetitive ones needed to claim it. The pie



must be both expanded and divided.

Mistake 4Searching Too Hard for Common GroundConventional wisdom says we negotiate toovercome the differences that divide us. So,typically, we’re advised to find win-win agree-ments by searching for common ground. Com-mon ground is generally a good thing. Yetmany of the most frequently overlookedsources of value in negotiation arise from dif-ferences among the parties.

Recall the battle over the dam. The solu-tion—a smaller dam, water flow guarantees,habitat conservation—did not result fromcommon interests but because farmers, envi-

ronmentalists, and the utility had different pri-orities. Similarly, when Egypt and Israel werenegotiating over the Sinai, their positions onwhere to draw the boundary were incompati-ble. When negotiators went beyond the oppos-ing positions, however, they uncovered a vitaldifference of underlying interest and priority:the Israelis cared more about security, whilethe Egyptians cared more about sovereignty.The solution was a demilitarized zone underthe Egyptian flag. Differences of interest orpriority can open the door to unbundling dif-ferent elements and giving each party what itvalues the most—at the least cost to the other.

Even when an issue seems purely economic,finding differences can break open deadlockeddeals. Consider a small technology company

Solving Teddy Roosevelt’s Negotiation ProblemTheodore Roosevelt, nearing the end of a hard-fought presidential election campaign in 1912, scheduled a final whistle-stop jour-ney. At each stop, Roosevelt planned to clinch the crowd’s votes by distributing an elegant pamphlet with a stern presidential portrait on the cover and a stirring speech, “Confession of Faith,” inside. Some three million copies had been printed when a campaign worker noticed a small line under the photograph on each brochure that read, “Moffett Studios, Chicago.” Since Moffett held the copyright, the unauthorized use of the photo could cost the campaign one dol-lar per reproduction. With no time to re-print the brochure, what was the campaign to do?

Not using the pamphlets at all would dam-age Roosevelt’s election prospects. Yet, if they went ahead, a scandal could easily erupt very close to the election, and the campaign could be liable for an unaffordable sum. Campaign workers quickly realized they would have to negotiate with Moffett. But re-search by their Chicago operatives turned up bad news: although early in his career as a photographer, Moffett had been taken with the potential of this new artistic medium, he had received little recognition. Now, Moffett was financially hard up and bitterly ap-proaching retirement with a single-minded focus on money.

Dispirited, the campaign workers ap-

proached campaign manager George Per-kins, a former partner of J.P. Morgan. Perkins lost no time summoning his stenographer to dispatch the following cable to Moffett Stu-dios: “We are planning to distribute millions of pamphlets with Roosevelt’s picture on the cover. It will be great publicity for the studio whose photograph we use. How much will you pay us to use yours? Respond immedi-ately.” Shortly, Moffett replied: “We’ve never done this before, but under the circum-stances we’d be pleased to offer you $250.” Reportedly, Perkins accepted—without dick-ering for more.

Perkins’s misleading approach raises ethi-cal yellow flags and is anything but a model negotiation on how to enhance working rela-tionships. Yet this case raises a very interest-ing question: why did the campaign workers find the prospect of this negotiation so diffi-cult? Their inability to see what Perkins im-mediately perceived flowed from their anx-ious obsession with their own side’s problem: their blunders so far, the high risk of losing the election, a potential $3 million exposure, an urgent deadline, and no cash to meet Moffett’s likely demands for something the campaign vitally needed. Had they avoided mistake 1 by pausing for a moment and thinking about how Moffett saw his problem, they would have realized that Moffett didn’t even know he had a problem. Perkins’s tacti-cal genius was to recognize the essence of

the negotiator’s central task: shape how your counterpart sees its problem such that it chooses what you want.

The campaign workers were paralyzed in the face of what they saw as sharply conflict-ing monetary interests and their pathetic BATNA. From their perspective, Moffett’s only choice was how to exploit their despera-tion at the prospect of losing the presidency. By contrast, dodging mistake 5, Perkins im-mediately grasped the importance of favor-ably shaping Moffett’s BATNA perceptions, both of the campaign’s (awful) no-deal op-tions and Moffett’s (powerful) one. Perkins looked beyond price, positions, and common ground (mistakes 2, 3, and 4) and used Mof-fett’s different interests to frame the photog-rapher’s choice as “the value of publicity and recognition.” Had he assumed this would be a standard, hardball price deal by offering a small amount to start, not only would this as-sumption have been dead wrong but, worse, it would have been self-fulfilling.

Risky and ethically problematic? Yes…but Perkins saw his options as certain disaster versus some chance of avoiding it. And was Moffett really entitled to a $3 million wind-fall, avoidable had the campaign caught its oversight a week beforehand? Hard to say, but this historical footnote, which I’ve greatly embellished, illuminates the intersection of negotiating mistakes, tactics, and ethics.



and its investors, stuck in a tough negotiationwith a large strategic acquirer adamant aboutpaying much less than the asking price. On in-vestigation, it turned out that the acquirer wasactually willing to pay the higher price but wasconcerned about raising price expectations ina fast-moving sector in which it planned tomake more acquisitions. The solution was forthe two sides to agree on a modest, well-publi-cized initial cash purchase price; the deal in-cluded complex-sounding contingencies thatvirtually guaranteed a much higher price later.

Differences in forecasts can also fuel jointgains. Suppose an entrepreneur who is genu-inely optimistic about the prospects of her fast-growing company faces a potential buyer wholikes the company but is much more skepticalabout the company’s future cash flow. Theyhave negotiated in good faith, but, at the endof the day, the two sides sharply disagree onthe likely future of the company and so cannotfind an acceptable sale price. Instead of seeingthese different forecasts as a barrier, a savvynegotiator could use them to bridge the valuegap by proposing a deal in which the buyerpays a fixed amount now and a contingentamount later on the basis of the company’s fu-ture performance. Properly structured with ad-equate incentives and monitoring mecha-nisms, such a contingent payment, or “earn-out,” can appear quite valuable to the optimis-tic seller—who expects to get her higher valua-tion—but not very costly to the less optimisticbuyer. And willingness to accept such a contin-gent deal may signal that the seller’s confi-dence in the business is genuine. Both mayfind the deal much more attractive than walk-ing away.

A host of other differences make up the rawmaterial for joint gains. A less risk-averse partycan “insure” a more risk-averse one. An impa-tient party can get most of the early money,while his more patient counterpart can getconsiderably more over a longer period oftime. Differences in cost or revenue structure,tax status, or regulatory arrangements be-tween two parties can be converted into gainsfor both. Indeed, conducting a disciplined “dif-ferences inventory” is at least as important atask as is identifying areas of common ground.After all, if we were all clones of one another,with the same interests, beliefs, attitudes to-ward risk and time, assets, and so on, therewould be little to negotiate. While common

ground helps, differences drive deals. But ne-gotiators who don’t actively search for differ-ences rarely find them.

Mistake 5Neglecting BATNAsBATNAs—the acronym for “best alternativeto a negotiated agreement” coined years agoby Roger Fisher, Bill Ury, and Bruce Patton intheir book Getting to Yes—reflect the course ofaction a party would take if the proposed dealwere not possible. A BATNA may involvewalking away, prolonging a stalemate, ap-proaching another potential buyer, makingsomething in-house rather than procuring itexternally, going to court rather than settling,forming a different alliance, or going onstrike. BATNAs set the threshold—in terms ofthe full set of interests—that any acceptableagreement must exceed. Both parties doingbetter than their BATNAs is a necessary condi-tion for an agreement. Thus BATNAs define azone of possible agreement and determine itslocation.

A strong BATNA is an important negotia-tion tool. Many people associate the ability toinflict or withstand damage with bargainingpower, but your willingness to walk away to anapparently good BATNA is often more impor-tant. The better your BATNA appears both toyou and to the other party, the more credibleyour threat to walk away becomes, and themore it can serve as leverage to improve thedeal. Roger Fisher has dramatized this point byasking which you would prefer to have in yourback pocket during a compensation negotia-tion with your boss: a gun or a terrific job offerfrom a desirable employer who is also a seriouscompetitor of your company?

Not only should you assess your ownBATNA, you should also think carefully aboutthe other side’s. Doing so can alert you to sur-prising possibilities. In one instance, a Britishcompany hoped to sell a poorly performing di-vision for a bit more than its depreciated assetvalue of $7 million to one of two potential buy-ers. Realizing that these buyers were fierce ri-vals in other markets, the seller speculatedthat each party might be willing to pay an in-flated price to keep the other from getting thedivision. So they made sure that each suitorknew the other was looking and skillfully culti-vated the interest of both companies. The divi-sion sold for $45 million.

Many people associate

the ability to inflict or

withstand damage with

bargaining power, but

your willingness to walk

away to an apparently

good BATNA is often

more important.



Negotiators must also be careful not to in-advertently damage their BATNAs. I saw thathappen at a Canadian chemical manufactur-ing company that had decided to sell a largebut nonstrategic division to raise urgentlyneeded cash. The CEO charged his second-in-command with negotiating the sale of the divi-sion at the highest possible price.

The target buyer was an Australian com-pany, whose chief executive was an old schoolfriend of the Canadian CEO. The Australianchief executive let it be known that his com-pany was interested in the deal but that hissenior management was consumed, at themoment, with other priorities. If the Austra-lian company could have a nine-month nego-tiating exclusive to “confirm their seriousnessabout the sale,” the Australian chief execu-tive would dedicate the top personnel tomake the deal happen. A chief-to-chief agree-ment to that effect was struck. Pity the sec-ond-in-command, charged with urgently max-imizing cash from this sale, as he jetted off toSydney with no meaningful alternative fornine endless months to whatever price theAustralians offered.

Negotiators often become preoccupied withtactics, trying to improve the potential dealwhile neglecting their own BATNA and that ofthe other side. Yet the real negotiation prob-lem is “deal versus BATNA,” not one or theother in isolation. Your potential deal and yourBATNA should work together as the twoblades of the scissors do to cut a piece of paper.

Mistake 6Failing to Correct for Skewed VisionYou may be crystal clear on the right negotia-tion problem—but you can’t solve it correctlywithout a firm understanding of both sides’ in-terests, BATNAs, valuations, likely actions,and so on. Yet, just as a pilot’s sense of the ho-rizon at night or in a storm can be wildly inac-curate, the psychology of perception system-atically leads negotiators to major errors.3

Self-Serving Role Bias. People tend uncon-sciously to interpret information pertaining totheir own side in a strongly self-serving way.The following experiment shows the processat work. Harvard researchers gave a largegroup of executives financial and industry in-formation about one company negotiating toacquire another. The executive subjects wererandomly assigned to the negotiating roles of

buyer or seller; the information provided toeach side was identical. After plenty of timefor analysis, all subjects were asked for theirprivate assessment of the target company’sfair value—as distinct from how they mightportray that value in the bargaining process.Those assigned the role of seller gave medianvaluations more than twice those given by theexecutives assigned to the buyer’s role. Thesevaluation gulfs had no basis in fact; they weredriven entirely by random role assignments.

Even comparatively modest role biases canblow up potential deals. Suppose a plaintiff be-lieves he has a 70% chance of winning a mil-lion-dollar judgment, while the defense thinksthe plaintiff has only a 50% chance of winning.This means that, in settlement talks, the plain-tiff’s expected BATNA for a court battle (to get$700,000 minus legal fees) will exceed the de-fendant’s assessment of his exposure (to pay$500,000 plus fees). Without significant riskaversion, the divergent assessments wouldblock any out-of-court settlement. This cogni-tive role bias helps explain why Microsoft tooksuch a confrontational approach in its recentstruggle with the U.S. Department of Justice.The company certainly appeared overoptimis-tic about its chances in court. Similarly, ArthurAndersen likely exhibited overconfidence in itsarbitration prospects over the terms of separa-tion from Andersen Consulting (now Accen-ture). Getting too committed to your point ofview—“believing your own line”—is an ex-tremely common mistake.

Partisan Perceptions. While we systemati-cally err in processing information critical toour own side, we are even worse at assessingthe other side—especially in an adversarial sit-uation. Extensive research has documented anunconscious mechanism that enhances one’sown side, “portraying it as more talented, hon-est, and morally upright,” while simulta-neously vilifying the opposition. This oftenleads to exaggerated perceptions of the otherside’s position and overestimates of the actualsubstantive conflict. To an outsider, thosecaught up in disintegrating partnerships ormarriages often appear to hold exaggeratedviews of each other. Such partisan perceptionscan become even more virulent among peopleon each side of divides, such as Israelis and Pal-estinians, Bosnian Muslims and the Serbs, orCatholics and Protestants in Northern Ireland.

Partisan perceptions can easily become self-



fulfilling prophecies. Experiments testing theeffects of teachers’ expectations of students,psychiatrists’ diagnoses of mental patients, andplatoon leaders’ expectations of their traineesconfirm the notion that partisan perceptionsoften shape behavior. At the negotiating table,clinging firmly to the idea that one’s counter-part is stubborn or extreme, for example, islikely to trigger just that behavior, sharply re-ducing the possibility of reaching a construc-tive agreement.

As disagreement and conflict intensify, so-phisticated negotiators should expect biasedperceptions, both on their own side and theother side. Less seasoned players tend to beshocked and outraged by perceived extremismand are wholly unaware that their own viewsare likely colored by their roles. How to coun-teract these powerful biases? Just knowingthat they exist helps. Seeking the views of out-side, uninvolved parties is useful, too. And hav-ing people on your side prepare the strongestpossible case for the other side can serve as thebasis for preparatory role-playing that can gen-erate valuable insights. A few years ago, help-ing a client get ready for a tough deal, I sug-gested that the client create a detailed “brief”for each side and have the team’s best peoplenegotiate for the other side in a reverse role-play. The brief for my client’s side was lengthy,eloquent, and persuasive. Tellingly, the briefdescribing the other side’s situation was onlytwo pages long and consisted mainly of rea-sons for conceding quickly to my client’s supe-rior arguments. Not only were my client’s ex-ecutives fixated on their own problem(mistake 1), their perceptions of each side werealso hopelessly biased (mistake 6). To prepareeffectively, they needed to undertake signifi-cant competitive research and reality-test theirviews with uninvolved outsiders.

From Merely Effective to Superior NegotiationSo you have navigated the shoals of merely ef-fective deal making to face what is truly theright problem. You have focused on the fullset of interests of all parties, rather than fixat-ing on price and positions. You have lookedbeyond common ground to unearth value-cre-ating differences. You have assessed andshaped BATNAs. You have taken steps toavoid role biases and partisan perceptions. Inshort, you have grasped your own problem

clearly and have sought to understand and in-fluence the other side’s such that what itchooses is what you want.

Plenty of errors still lie in wait: culturalgaffes, an irritating style, inadvertent signals ofdisrespect or untrustworthiness, miscommuni-cation, bad timing, revealing too much or toolittle, a poorly designed agenda, sequencingmistakes, negotiating with the wrong personon the other side, personalizing issues, and soon. Even if you manage to avoid these mis-takes as well, you may still run into difficultiesby approaching the negotiation far too nar-rowly, taking too many of the elements of the“problem” as fixed.

The very best negotiators take a broaderapproach to setting up and solving the rightproblem. With a keen sense of the potentialvalue to be created as their guiding beacon,these negotiators are game-changing entre-preneurs. They envision the most promisingarchitecture and take action to bring it intobeing. These virtuoso negotiators not onlyplay the game as given at the table, they aremasters at setting it up and changing it awayfrom the table to maximize the chances forbetter results.

To advance the full set of their interests,they understand and shape the other side’schoice—deal versus no deal—such that theother chooses what they want. As François deCallières, an eighteenth-century commenta-tor, once put it, negotiation masters possess“the supreme art of making every man offerhim as a gift that which it was his chief designto secure.”

1. W. Chan Kim and Renée Mauborgne, “Fair Process: Man-aging in the Knowledge Economy,” HBR July–August 1997.

2. This and other studies illustrating this point can be foundin Leigh Thompson’s The Mind and Heart of the Negotiator(Prentice Hall, 1998).

3. See Robert J. Robinson, “Errors in Social Judgment: Im-plications for Negotiation and Conflict Resolution, Part I:Biased Assimilation of Information,” Harvard BusinessSchool, 1997 and Robert J. Robinson, “Errors in Social Judg-ment: Implications for Negotiation and Conflict Resolu-tion, Part II: Partisan Perceptions,” Harvard BusinessSchool, 1997.

Reprint R0104E; Harvard Business Review OnPoint 9411To order, see the next pageor call 800-988-0886 or 617-783-7500or go to www.hbr.org

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page 27

Further ReadingA R T I C L E SChange the Way You Persuade by Gary A. Williams and Robert B. MillerHarvard Business ReviewMay 2002Product no. 9969

Williams and Miller introduce another obsta-cle to effective negotiating: not understand-ing how the other party makes decisions. Ex-ecutives typically fall into one of five decision-making styles: Charismatics are intrigued by new ideas, but base final decisions on bal-anced information and impact on the bottom line. Thinkers are risk-averse and need lots of information before making a decision. Skep-tics are suspicious of data that don’t fit their worldview and, therefore, follow their guts. Followers make decisions based on how trusted colleagues have acted in the past. And controllers focus on facts and analyses be-cause of their own fears and uncertainties.

If you know your negotiating partner’s prefer-ences for hearing or seeing certain types of in-formation, you can frame your argument in the most appropriate way and improve your odds of getting the outcome you desire.

Fair Process: Managing in the Knowledge Economy by W. Chan Kim and Renée MauborgneHarvard Business ReviewJuly–August 1997Product no. 407X

This article focuses on fair communication process—one of the four nonfinancial inter-ests Sebenius cites. A fair process builds trust between negotiators, encouraging people to share knowledge and make decisions based on proposed plans’ merits. Three qualities de-fine a fair process: 1) engagement—partici-pants give their opinions and test each other’s assumptions, 2) explanation—participants understand the reasons for the final decision, and 3) expectation clarity—participants grasp the final decision’s implications. Negoti-ations marked by trust create sustainable value for both parties.

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http://harvardbusinessonline.hbsp.harvard.edu/relay.jhtml?name=itemdetail&referral=4320&id=407X

3rd article from the collection: Masterful Negotiating, 2nd Edition

page 28

Getting Past YesNegotiating as if Implementation Mattered

by Danny Ertel




29 Article Summary

30 Getting Past Yes: Negotiating as if Implementation Mattered



39 Further Reading

Product 8339



page 29


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Why do so many deals that looked great on paper end up in tatters? Negotiators on both sides probably focused too much on closing the deals and squeezing the best terms out of one another—and not enough on implementation. Bargainers with this deal-maker mind-set never ask how—or whether—their agreement will work in practice. Once implementation be-gins, surprises and disappointments crop up—often torpedoing the deal.

How to avoid this scenario? Bargain using an implementation mind-set. Define ne-gotiation not as closing the deal but as set-ting the stage for a successful long-term re-lationship. Brainstorm and discuss problems you might encounter 12 months down the road. Help the other party think through the agreement’s practical implica-tions, so your counterparts won’t promise something they can’t deliver. Ensure that both sides’ stakeholders support the deal. And communicate a consistent message about the deal’s terms and spirit to both parties’ implementation teams.

Deals negotiated from an implementation mind-set don’t “sizzle” like those struck by bargainers practicing brinksmanship. But as companies like HP Services and Procter & Gamble have discovered, a deal’s real value comes not from a signature on a document but from the real work performed long after the ink has dried.

To adopt an implementation mind-set, apply these practices before inking a deal:

START WITH THE END IN MIND

Imagine that it’s a year into implementation of your deal. Ask:

• Is the deal working? What metrics are you using to measure its success?

• What has gone wrong so far? What have you done to put things back on course? What signals suggest trouble ahead?

• What capabilities are needed to accom-plish the deal’s objectives? What skills do your implementation teams need? Who has tried to block implementation, and how have you responded?

By answering these questions now, you avoid being blindsided by surprises during imple-mentation.

HELP THE OTHER PARTY PREPARE

Coming to the table prepared to negotiate a workable deal isn’t enough—your counterpart must also prepare. Before negotiations begin, encourage the other party to consult with their internal stakeholders throughout the bargaining process. Explain who you think the key players are, who should be involved early on, and what key questions about implemen-tation you’re asking yourself.

TREAT ALIGNMENT AS A SHARED RESPONSIBILITY

Jointly address how you’ll build broad support for the deal’s implementation. Identify both parties’ stakeholders—those who will make decisions, affect the deal’s success through ac-tion or inaction, hold critical budgets, or pos-sess crucial information. Map how and when different stakeholders’ input will be solicited. Ask who needs to know what in order to sup-port the deal and carry out their part of its im-plementation.

SEND ONE MESSAGE

Ensure that each team responsible for imple-menting the deal understands what the agreement is meant to accomplish. Commu-nicate one message to them about the terms of the deal, the spirit in which it was negoti-ated, and the trade-offs that were made to craft the final contract.

Example:During IBM Global Services’ “joint handoff meetings,” the company’s negotiators and their counterparts brief implementation teams on what’s in the contract, what’s dif-ferent or nonstandard, and what the deal’s ultimate intent is.

MANAGE NEGOTIATION LIKE A BUSINESS PROCESS

Establish a disciplined process for negotiation preparation in your company. Provide train-ing in collaborative negotiation tools and techniques for negotiators and implementers. Use post-negotiation reviews to capture learning. And reward individuals for the deliv-ered success of the deals they negotiated—not for how those deals look on paper.


by Danny Ertel


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Techniques that can help you seal a deal may end up torpedoing the

relationship when it’s time to put the deal into operation.

In July 1998, AT&T and BT announced a new50/50 joint venture that promised to bring glo-bal interconnectivity to multinational custom-ers. Concert, as the venture was called, waslaunched with great fanfare and even greaterexpectations: The $10 billion start-up wouldpool assets, talent, and relationships and wasexpected to log $1 billion in profits from dayone. Just three years later, Concert was out ofbusiness. It had laid off 2,300 employees, an-nounced $7 billion in charges, and returned itsinfrastructure assets to the parent companies.To be sure, the weak market played a role inConcert’s demise, but the way the deal was puttogether certainly hammered a few nails intothe coffin.

For example, AT&T’s deal makers scoredwhat they probably considered a valuable winwhen they negotiated a way for AT&T Solu-tions to retain key multinational customers foritself. As a result, AT&T and BT ended up in di-rect competition for business—exactly whatthe Concert venture was supposed to help pre-vent. For its part, BT seemingly outnegotiated

AT&T by refusing to contribute to AT&T’s pur-chase of the IBM Global Network. That movesaved BT money, but it muddied Concert’sstrategy, leaving the start-up to contend withoverlapping products. In 2000, Concert an-nounced a complex new arrangement that wassupposed to clarify its strategy, but many ques-tions about account ownership, revenue recog-nition, and competing offerings went unan-swered. Ultimately, the two parent companiespulled the plug on the venture.1

Concert is hardly the only alliance thatbegan with a signed contract and a champagnetoast but ended in bitter disappointment. Ex-amples abound of deals that look terrific onpaper but never materialize into effective,value-creating endeavors. And it’s not just alli-ances that can go bad during implementation.Misfortune can befall a whole range of agree-ments that involve two or more parties—merg-ers, acquisitions, outsourcing contracts, eveninternal projects that require the cooperationof more than one department. Although theproblem often masquerades as one of execu-

Getting Past Yes


tion, its roots are anchored in the deal’s incep-tion, when negotiators act as if their main ob-jective were to sign the deal. To be successful,negotiators must recognize that signing a con-tract is just the beginning of the process of cre-ating value.

During the past 20 years, I’ve analyzed orassisted in hundreds of complex negotiations,both through my research at the Harvard Ne-gotiation Project and through my consultingpractice. And I’ve seen countless deals thatwere signed with optimism fall apart duringimplementation, despite the care and creativ-ity with which their terms were crafted. Thecrux of the problem is that the very person ev-eryone thinks is central to the deal—the nego-tiator—is often the one who undermines thepartnership’s ability to succeed. The real chal-lenge lies not in hammering out little victorieson the way to signing on the dotted line but indesigning a deal that works in practice.

The Danger of Deal MakersIt’s easy to see where the deal maker mind-setcomes from. The media glorifies big-namedeal makers like Donald Trump, MichaelOvitz, and Bruce Wasserstein. Books like YouCan Negotiate Anything, Trump: The Art of theDeal, and even my own partners’ Getting to Yesall position the end of the negotiation as thedestination. And most companies evaluateand compensate negotiators based on the sizeof the deals they’re signing.

But what kind of behavior does this ap-proach create? People who view the contractas the conclusion and see themselves as solelyresponsible for getting there behave very dif-ferently from those who see the agreement asjust the beginning and believe their role is toensure that the parties involved actually real-ize the value they are trying to create. Thesetwo camps have conflicting opinions about theuse of surprise and the sharing of information.They also differ in how much attention theypay to whether the parties’ commitments arerealistic, whether their stakeholders are suffi-ciently aligned, and whether those who mustimplement the deal can establish a suitableworking relationship with one another. (For acomparison of how different mind-sets affectnegotiation behaviors, see the exhibit “Deal-Minded Negotiators Versus Implementation-Minded Negotiators.”)

This isn’t to say deal makers are sleazy, dis-

honest, or unethical. Being a deal makermeans being a good closer. The deal makermind-set is the ideal approach in certain cir-cumstances. For example, when negotiatingthe sale of an asset in which title will simply betransferred and the parties will have little or noneed to work together, getting the signatureson the page really does define success.

But frequently a signed contract representsa commitment to work together to createvalue. When that’s the case, the manner inwhich the parties “get to yes” matters a greatdeal. Unfortunately, many organizations struc-ture their negotiation teams and manage theflow of information in ways that actually hurta deal’s chances of being implemented well.

An organization that embraces the dealmaker approach, for instance, tends to struc-ture its business development teams in a waythat drives an ever growing stream of newdeals. These dedicated teams, responsible forkeeping negotiations on track and gettingdeals done, build tactical expertise, acquireknowledge of useful contract terms, and go onto sign more deals. But they also become de-tached from implementation and are likely tofocus more on the agreement than on its busi-ness impact. Just think about the languagedeal-making teams use (“closing” a deal, put-ting a deal “to bed”) and how their perfor-mance is measured and rewarded (in terms ofthe number and size of deals closed and thetime required to close them). These teamswant to sign a piece of paper and book the ex-pected value; they couldn’t care less aboutlaunching a relationship.

The much talked about Business Affairs en-gine at AOL under David Colburn is one ex-treme example. The group became so focusedon doing deals—the larger and more lopsidedthe better—that it lost sight of the need tohave its business partners actually remain inbusiness or to have its deals produce morethan paper value. In 2002, following internalinvestigations and probes by the SEC and theDepartment of Justice, AOL Time Warner con-cluded it needed to restate financial results toaccount for the real value (or lack thereof) cre-ated by some of those deals.2

The deal maker mentality also fosters thetake-no-prisoners attitude common in procure-ment organizations. The aim: Squeeze yourcounterpart for the best possible deal you canget. Instead of focusing on deal volume, as

Danny Ertel ([email protected]) is a founder and director of Vantage Partners, a consulting firm in Boston, and CEO and chairman of Vantage Technologies, which develops software to enable negotiation and relationship management processes.



Getting Past Yes


Negotiation Tactics

Deal-Minded Negotiators

Implementation-MindedNegotiators

Surprise

Assumption“Surprising them helps me. They may commit to something they might not have otherwise, andwe’ll get a better deal.”

BehaviorsIntroduce new actors or information at strategicpoints in negotiation.

Raise new issues at the end.

Versus

Informationsharing

Assumption“It’s not my role to equipthem with relevant infor-mation or to correct theirmisperceptions.”

BehaviorsWithhold information.

Fail to correct mistaken impressions.

Assumption“I don’t want them enteringthis deal feeling duped. Iwant their goodwill duringimplementation, not theirgrudging compliance.”

BehaviorsCreate a joint fact-gathering group.

Commission third-party research and analysis.

Question everyone’s assumptions openly.

Closing techniques

Assumption“My job is to get the dealclosed. It’s worth putting a little pressure on themnow and coping with their unhappiness later.”

BehaviorsCreate artificial deadlines.

Threaten escalation.

Make “this day only”offers.

Assumption“My job is to create value by crafting a workableagreement. Investing a little extra time in makingsure both sides are alignedis worth the effort.”

BehaviorsDefine interests that needto be considered for thedeal to be successful.

Define joint communica-tion strategy.

Realisticcommitments

Assumptions“As long as they commit,that’s all that matters. Afterward, it’s their prob-lem if they don’t deliver.”

BehaviorsFocus on documentingcommitments rather thanon testing the practicalityof those commitments.

Rely on penalty clauses for protection.

Assumption“If they fail to deliver, wedon’t get the value weexpect. “

Decision makingand stakeholders

Assumption“The fewer people involvedin making this decision, the better and faster thiswill go.”

BehaviorsLimit participation in discussions to decisionmakers.

Keep outsiders in the dark until it is too late for them to derail things.

Assumption“If we both fail to involvekey stakeholders suffi-ciently and early enough,whatever time we savenow will be lost during implementation.”

BehaviorsRepeatedly ask aboutstakeholders: Whose approval is needed? Whose cooperation is required? Who might interfere withimplementation?

BehaviorsAsk tough questions aboutboth parties’ability to deliver.

Make implementability a shared concern.

Establish early warning sys-tems and contingency plans.

Assumption“Surprising them puts us at risk. They may commit to something they cannotdeliver or will regret.”

BehaviorsPropose agendas in advanceso both parties can prepare.

Suggest questions to be discussed, and providerelevant data.

Raise issues early.

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Getting Past Yes


business development engines do, thesegroups concentrate on how many concessionsthey can get. The desire to win outweighs thecosts of signing a deal that cannot work inpractice because the supplier will never beable to make enough money.

Think about how companies handle nego-tiations with outsourcing providers. Few orga-nizations contract out enough of their workto have as much expertise as the providersthemselves in negotiating deal structures,terms and conditions, metrics, pricing, andthe like, so they frequently engage a third-party adviser to help level the playing field asthey select an outsourcer and hammer out acontract. Some advisers actually trumpettheir role in commoditizing the providers’ so-lutions so they can create “apples to apples”comparison charts, engender competitive bid-ding, and drive down prices. To maximizecompetitive tension, they exert tight control,blocking virtually all communications be-tween would-be customers and service pro-viders. That means the outsourcers have al-most no opportunity to design solutionstailored to the customer’s unique businessdrivers.

The results are fairly predictable. The dealstructure that both customer and providerteams are left to implement is the one that waseasiest to compare with other bids, not the onethat would have created the most value. Worseyet, when the negotiators on each side exit theprocess, the people responsible for making thedeal work are virtual strangers and lack a nu-anced understanding of why issues were han-

dled the way they were. Furthermore, neitherside has earned the trust of its partner duringnegotiations. The hard feelings created by thehired guns can linger for years.

The fact is, organizations that depend on ne-gotiations for growth can’t afford to abdicatemanagement responsibility for the process. Itwould be foolhardy to leave negotiations en-tirely up to the individual wits and skills ofthose sitting at the table on any given day.That’s why some corporations have taken stepsto make negotiation an organizational compe-tence. They have made the process more struc-tured by, for instance, applying Six Sigma disci-pline or community of practice principles toimprove outcomes and learn from past experi-ences.

Sarbanes-Oxley and an emphasis on greatermanagement accountability will only rein-force this trend. As more companies (and theirauditors) recognize the need to move to a con-trols-based approach for their deal-making pro-cesses—be they in sales, sourcing, or businessdevelopment—they will need to implementmetrics, tools, and process disciplines that pre-serve creativity and let managers truly managenegotiators. How they do so, and how they de-fine the role of the negotiator, will determinewhether deals end up creating or destroyingvalue.

Negotiating for ImplementationMaking the leap to an implementation mind-set requires five shifts.

1. Start with the end in mind. For the in-volved parties to reap the benefits outlined inthe agreement, goodwill and collaboration areneeded during implementation. That’s whynegotiation teams should carry out a simple“benefit of hindsight” exercise as part of theirpreparation.

Imagine that it is 12 months into the deal,and ask yourself:

Is the deal working? What metrics are we us-ing? If quantitative metrics are too hard to de-fine, what other indications of success can weuse?

What has gone wrong so far? What have wedone to put things back on course? What weresome early warning signals that the deal maynot meet its objectives?

What capabilities are necessary to accomplishour objectives? What processes and tools mustbe in place? What skills must the implementa-

A New Mind-SetFive approaches can help your negotiating team transition from a deal maker men-tality to an implementation mind-set.

1. Start with the end in mind. Imag-ine the deal 12 months out: What has gone wrong? How do you know if it’s a success? Who should have been in-volved earlier?

2. Help them prepare, too. Surpris-ing the other side doesn’t make sense, because if they promise things they can’t deliver, you both lose.

3. Treat alignment as a shared re-

sponsibility. If your counterpart’s inter-ests aren’t aligned, it’s your problem, too.

4. Send one message. Brief imple-mentation teams on both sides of the deal together so everyone has the same information.

5. Manage negotiation like a busi-

ness process. Combine a disciplined preparation process with postnegotiation reviews.

Getting Past Yes


tion teams have? What attitudes or assump-tions are required of those who must imple-ment the deal? Who has tried to blockimplementation, and how have we responded?

If negotiators are required to answer thosekinds of questions before the deal is finalized,they cannot help but behave differently. Forexample, if the negotiators of the Concert jointventure had followed that line of questioningbefore closing the deal, they might have askedthemselves, “What good is winning the right tokeep customers out of the deal if doing soleads to competition between the alliance’sparents? And if we have to take that risk, canwe put in mechanisms now to help mitigateit?” Raising those tough questions probablywouldn’t have made a negotiator popular, butit might have led to different terms in the dealand certainly to different processes and met-rics in the implementation plan.

Most organizations with experience in nego-tiating complex deals know that some termshave a tendency to come back and bite themduring implementation. For example, in 50/50ventures, the partner with greater leverageoften secures the right to break ties if the newventure’s steering committee should ever cometo an impasse on an issue. In practice, though,that means executives from the dominantparty who go into negotiations to resolve suchimpasses don’t really have to engage with theother side. At the end of the day, they knowthey can simply impose their decision. Butwhen that happens, the relationship is fre-quently broken beyond repair.

Tom Finn, vice president of strategic plan-ning and alliances at Procter & Gamble Phar-maceuticals, has made it his mission to incor-porate tough lessons like that into thenegotiation process itself. Although Finn’s alli-ance management responsibilities technicallydon’t start until after a deal has been negoti-ated by the P&G Pharmaceuticals business de-velopment organization, Finn jumps into thenegotiation process to ensure negotiators donot bargain for terms that will cause troubledown the road. “It’s not just a matter of a win-win philosophy,” he says. “It’s about incorporat-ing our alliance managers’ hard-won experi-ence with terms that cause implementationproblems and not letting those terms into ourdeals.”

Finn and his team avoid things like step-down royalties and unequal profit splits with

50/50 expense sharing, to name just a few. “It’simportant that the partners be provided [with]incentives to do the right thing,” Finn says.“When those incentives shift, you tend to endup [with] difficulties.” Step-down royalties, forinstance, are a common structure in the indus-try. They’re predicated on the assumption thata brand is made or lost in the first three years,so that thereafter, payments to the originatorshould go down. But P&G Pharmaceuticals be-lieves it is important to provide incentives tothe partner to continue to work hard overtime. As for concerns about overpaying for thelicensed compound in the latter years of thecontract, Finn asserts that “leaving somemoney on the table is OK if you realize that themost expensive deal is one that fails.”

2. Help them prepare, too. If implementa-tion is the name of the game, then coming tothe table well prepared is necessary—but notsufficient. Your counterpart must also be pre-pared to negotiate a workable deal. Some nego-tiators believe they can gain advantage by sur-prising the other side. But surprise confersadvantage only because the counterpart hasfailed to think through all the implications of aproposal and might mistakenly commit tosomething it wouldn’t have if it had been betterprepared. While that kind of an advantagemight pay off in a simple buy-sell transaction, itfails miserably—for both sides—in any situationthat requires a long-term working relationship.

That’s why it’s in your best interest to en-gage with your counterpart before negotia-tions start. Encourage the other party to do itshomework and consult with its internal stake-holders before and throughout the negotiationprocess. Let the team know who you think thekey players are, who should be involved earlyon, how you hope to build implementationplanning into the negotiation process, andwhat key questions you are asking yourself.

Take the example of Equitas, a major rein-surer in the London market. When preparingfor commutations negotiations—whereby tworeinsurers settle their mutual book of busi-ness—the company sends its counterpart athorough kickoff package, which is used as theagenda for the negotiation launch meeting.This “commutations action pack” describeshow the reinsurer’s own commutations depart-ment is organized, what its preferred approachto a commutations negotiation is, and whatstages it follows. It also includes a suggested

“Leaving some money on

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expensive deal is one that

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Getting Past Yes


approach to policy reconciliation and due dili-gence and explains what data the reinsurer hasavailable—even acknowledging its imperfec-tions and gaps. The package describes criticalissues for the reinsurer and provides sampleagreements and memorandums for variousstages of the process.

The kickoff meeting thus offers a structuredenvironment in which the parties can educateeach other on their decision-making processesand their expectations for the deal. The lan-guage of the commutations action pack andthe collaborative spirit of the kickoff meetingare designed to help the parties get to knoweach other and settle on a way of working to-gether before they start making the difficulttrade-offs that will be required of them. By es-tablishing an agreed-upon process for how andwhen to communicate with brokers about thedeal, the two sides are better able to managethe tension between the need to include stake-holders who are critical to implementation andthe need to maintain confidentiality before thedeal is signed.

Aventis Pharma is another example of howmeasured disclosure of background and otherinformation can pave the way to smoother ne-gotiations and stronger implementation. Likemany of its peers, the British pharmaceuticalgiant wants potential biotech partners to see itas a partner of choice and value a relationshipwith the company for more than the size of theroyalty check involved. To that end, Aventishas developed and piloted a “negotiationlaunch” process, which it describes as a meet-ing during which parties about to enter intoformal negotiations plan together for those ne-gotiations. Such collaboration allows bothsides to identify potential issues and set up anagreed upon process and time line. The com-pany asserts that while “formally launching ne-gotiations with a counterpart may seem unor-thodox to some,” the entire negotiation processruns more efficiently and effectively whenpartners “take the time to discuss how they willnegotiate before beginning.”

3. Treat alignment as a shared responsibil-ity. If their interests are not aligned, and theycannot deliver fully, that’s not just their prob-lem—it’s your problem, too.

Unfortunately, deal makers often rely on se-crecy to achieve their goals (after all, a stake-holder who doesn’t know about a deal can’t ob-ject). But leaving internal stakeholders in the

dark about a potential deal can have negativeconsequences. Individuals and departmentsthat will be directly affected don’t have achance to weigh in with suggestions to miti-gate risks or improve the outcome. And peoplewith relevant information about the deal don’tshare it, because they have no idea it’s needed.Instead, the typical reaction managers havewhen confronted late in the game with newsof a deal that will affect their department is“Not with my FTEs, you don’t.”

Turning a blind eye to likely alignmentproblems on the other side of the table is oneof the leading reasons alliances break downand one of the major sources of conflict in out-sourcing deals. Many companies, for instance,have outsourced some of their human resourceor finance and accounting processes. Serviceproviders, for their part, often move labor-in-tensive processes to Web-based self-service sys-tems to gain process efficiencies. If users findthe new self-service system frustrating or in-timidating, though, they make repeated (andexpensive) calls to service centers or fax inhandwritten forms. As a result, processing costsjump from pennies per transaction to tens ofdollars per transaction.

But during the initial negotiation, buyersroutinely fail to disclose just how undisciplinedtheir processes are and how resistant to changetheir cultures might be. After all, they think,those problems will be the provider’s headacheonce the deal is signed. Meanwhile, to makerequested price concessions, providers oftendrop line items from their proposals intendedto educate employees and support the newprocess. In exchange for such concessions, witha wink and a nod, negotiators assure the pro-vider that the buyers will dedicate internal re-sources to change-management and communi-cation efforts. No one asks whether businessunit managers support the deal or whetherfunction leaders are prepared to make thetransition from managing the actual work tomanaging the relationship with an externalprovider. Everyone simply agrees, the deal issigned, and the frustration begins.

As managers and employees work aroundthe new self-service system, the provider’s costsincrease, the service levels fall (because theprovider was not staffed for the high level ofcalls and faxes), and customer satisfactionplummets. Finger-pointing ensues, which mustthen be addressed through expensive additions

Getting Past Yes


to the contract, costly modifications to pro-cesses and technology, and additional burdenson a communication and change effort alreadyladen with baggage from the initial failure.

Building alignment is among negotiators’least favorite activities. The deal makers oftenfeel as if they are wasting precious time “nego-tiating internally” instead of working theirmagic on the other side. But without accep-tance of the deal by those who are essential toits implementation (or who can place obstaclesin the way), proceeding with the deal is evenmore wasteful. Alignment is a classic “pay menow or pay me later” problem. To understandwhether the deal will work in practice, the ne-gotiation process must encompass not onlysubject matter experts or those with bargain-ing authority but also those who will actuallyhave to take critical actions or refrain frompursuing conflicting avenues later.

Because significant deals often require bothparties to preserve some degree of confidenti-ality, the matter of involving the right stake-holders at the right time is more effectively ad-dressed jointly than unilaterally. With anunderstanding of who the different stakehold-ers are—including those who have necessaryinformation, those who hold critical budgets,those who manage important third-party rela-tionships, and so on—a joint communicationssubteam can then map how, when, and withwhom different inputs will be solicited and dif-ferent categories of information might beshared. For example, some stakeholders mayneed to know that the negotiations are takingplace but not the identity of the counterpart.Others may need only to be aware that the or-ganization is seeking to form a partnership sothey can prepare for the potential effects of aneventual deal. And while some must remain inthe dark, suitable proxies should be identifiedto ensure that their perspectives (and the rolesthey will play during implementation) are con-sidered at the table.

4. Send one message. Complex deals re-quire the participation of many people duringimplementation, so once the agreement is inplace, it’s essential that the team that createdit get everyone up to speed on the terms of thedeal, on the mind-set under which it was nego-tiated, and on the trade-offs that were made incrafting the final contract. When each imple-mentation team is given the contract in a vac-uum and then is left to interpret it separately,

each develops a different picture of what thedeal is meant to accomplish, of the negotia-tors’ intentions, and of what wasn’t actuallywritten in the document but each had imag-ined would be true in practice.

“If your objective is to have a deal you canimplement, then you want the actual peoplewho will be there, after the negotiators moveon, up front and listening to the dialogue andthe give-and-take during the negotiation sothey understand how you got to the agreed so-lution,” says Steve Fenn, vice president for re-tail industry and former VP for global businessdevelopment at IBM Global Services. “But wecan’t always have the delivery executive at thetable, and our customer doesn’t always knowwho from their side is going to be around tolead the relationship.” To address this chal-lenge, Fenn uses joint hand-off meetings, atwhich he and his counterpart brief both sidesof the delivery equation. “We tell them what’sin the contract, what is different or nonstand-ard, what the schedules cover. But more im-portant, we clarify the intent of the deal:Here’s what we had difficulty with, and here’swhat we ended up with and why. We don’t tryto reinterpret the language of the contract but[we do try] to discuss openly the spirit of thecontract.” These meetings are usually attendedby the individual who developed the statementof work, the person who priced the deal, thecontracts and negotiation lead, and occasion-ally legal counsel. This team briefs the projectexecutive in charge of the implementation ef-fort and the executive’s direct reports. Partici-pation on the customer side varies, because theearly days in an outsourcing relationship areoften hectic and full of turnover. But Fennworks with the project executive and the salesteam to identify the key customer representa-tives who should be invited to the hand-offbriefing.

Negotiators who know they have to briefthe implementation team with their counter-parts after the deal is signed will approach theentire negotiation differently. They’ll start ask-ing the sort of tough questions at the negotiat-ing table that they imagine they’ll have to fieldduring the postdeal briefings. And as theythink about how they will explain the deal tothe delivery team, they will begin to marshaldefensible precedents, norms, industry prac-tices, and objective criteria. Such standards oflegitimacy strengthen the relationship because

Getting Past Yes


they emphasize persuasion rather than coer-cion. Ultimately, this practice makes a dealmore viable because attention shifts from theindividual negotiators and their personalitiestoward the merits of the arrangement.

5. Manage negotiation like a business pro-cess. Negotiating as if implementation mat-tered isn’t a simple task. You must worry aboutthe costs and challenges of execution ratherthan just getting the other side to say yes. Youmust carry out all the internal consultationsnecessary to build alignment. And you mustmake sure your counterparts are as prepared asyou are. Each of these actions can feel like a bigtime sink. Deal makers don’t want to spendtime negotiating with their own people to buildalignment or risk having their counterpartspull out once they know all the details. If a com-pany wants its negotiators to sign deals that cre-ate real value, though, it has to weed out thatdeal maker mentality from its ranks. Fortu-nately, it can be done with simple processes andcontrols. (For an example of how HP Servicesstructures its negotiation process, see the side-

bar “Negotiating Credibility.”)More and more outsourcing and procure-

ment firms are adopting a disciplined negotia-tion preparation process. Some even require amanager to review the output of that processbefore authorizing the negotiator to proceedwith the deal. KLA-Tencor, a semiconductorproduction equipment maker, uses the elec-tronic tools available through its supplier-management Web site for this purpose, for ex-ample. Its managers can capture valuable in-formation about negotiators’ practices, in-cluding the issues they are coming up against,the options they are proposing, the standardsof legitimacy they are relying on, and thewalkaway alternatives they are considering.Coupled with simple postnegotiation re-views, this information can yield powerful or-ganizational insights.

Preparing for successful implementation ishard work, and it has a lot less sizzle than thebrinksmanship characteristic of the negotia-tion process itself. To overcome the naturaltendency to ignore feasibility questions, it’s im-

Negotiating CredibilityHP Services is growing in a highly competi-tive market, and its success is partly due to its approach to negotiating large outsourcing transactions. In a maturing market, where top tier providers can demonstrate compara-ble capabilities and where price variations in-evitably diminish after companies bid against one another time and time again, a provider’s ability to manage a relationship and build trust are key differentiators. The negotiation and the set of interactions lead-ing up to it give the customer a first taste of what it will be like to solve problems with the provider during the life of the contract. “De-cisions made by clients regarding selection have as much to do with the company they want to do business with as with price, capa-bility, and reliability,” acknowledges Steve Huhn, HP Services’ vice president of strate-gic outsourcing. “Negotiating these kinds of deals requires being honest, open, and credi-ble. Integrity is critical to our credibility.”

Huhn’s team of negotiators uses a well-structured process designed to make sure that the philosophy of integrity is pervasive

throughout the negotiation and not just a function of who happens to be at the table on any given day. It begins with the formation of a negotiation team. Because transition in complex outsourcing transactions represents a period of high vulnerability, it is important to involve implementation staff early on; that way, any commitments made can be vali-dated by those who will be responsible for keeping them. A typical negotiation team consists of a business leader, or pursuit lead, who is usually responsible for developing the business and structuring the transaction; a contract specialist, who brings experience with outsourcing contract terms and condi-tions; and the proposed client manager, who will be responsible for delivery.

Negotiation leads work with a high degree of autonomy. Huhn believes that a negotiator without authority is little more than a mes-senger, and messengers are unlikely to earn trust or build working relationships with counterparts. At HP, negotiators earn that au-tonomy by preparing extensively with tem-plates and by reviewing key deal parameters

with management. A negotiator’s mandate does not just cover price: It also encompasses margins, cash flow, and ROI at different times in the life of the contract; the treatment of transferred employees; the ways various kinds of risk will be allocated; and how the re-lationship will be governed. All these inter-ests must be addressed—both in preparation and at the negotiation table.

HP’s outsourcing negotiators are subject to informal reviews with full-time deal coaches as well as formal milestone reviews. The reviews, which are designed to get key stakeholders committed to implementation, happen before the formal proposal is deliv-ered and before the deal is signed.

The pursuit team leaders aren’t finished once the agreement is signed. In fact, they re-tain responsibility during the transition phase and are considered “liable” for the deal’s performance during the next 18 to 24 months. That means negotiators can’t simply jump to the next alluring deal. On the con-trary, they have a vested interest in making sure the closed deal actually meets its targets.

Getting Past Yes


portant for management to send a clear mes-sage about the value of postdeal implementa-tion. It must reward individuals, at least inpart, based on the delivered success of thedeals they negotiate, not on how those dealslook on paper. This practice is fairly standardamong outsourcing service providers; it’s onethat should be adopted more broadly.

Improving the implementability of dealsis not just about layering controls or captur-ing data. After all, a manager’s strength hasmuch to do with the skills she chooses tobuild and reward and the example she setswith her own questions and actions. In thehealth care arena, where payer-provider con-tentions are legion, forward-thinking payersand innovative providers are among thosetrying to change the dynamics of deals anddevelop agreements that work better. BlueCross and Blue Shield of Florida, for exam-ple, has been working to institutionalize anapproach to payer-provider negotiations thatstrengthens the working relationship andsupports implementation. Training in collab-orative negotiation tools and techniques hasbeen rolled down from the senior executivesto the negotiators to the support and analy-sis teams. Even more important, those whomanage relationships with providers and areresponsible for implementing the agree-ments are given the same training and tools.In other words, the entire process of puttingthe deal together, making it work, and feed-ing the lessons learned through implementa-tion back into the negotiation process has

been tightly integrated.• • •

Most competitive runners will tell you that ifyou train to get to the finish line, you will losethe race. To win, you have to envision yourgoal as just beyond the finish line so you willblow right past it at full speed. The same istrue for a negotiator: If signing the documentis your ultimate goal, you will fall short of awinning deal.

The product of a negotiation isn’t a docu-ment; it’s the value produced once the partieshave done what they agreed to do. Negotiatorswho understand that prepare differently thandeal makers do. They don’t ask, “What mightthey be willing to accept?” but rather, “How dowe create value together?” They also negotiatedifferently, recognizing that value comes notfrom a signature but from real work per-formed long after the ink has dried.

1. For more perspectives on Concert’s demise, see MargieSemilof’s 2001 article “Concert Plays Its Last Note” on Inter-netWeek.com; Brian Washburn’s 2000 article “Discon-certed” on Tele.com; and Charles Hodson’s 2001 article“Concert: What Went Wrong?” on CNN.com.2. See Alec Klein, “Lord of the Flies,” the Washington Post,June 15, 2003, and Gary Rivlin, “AOL’s Rough Riders,” Indus-try Standard, October 30, 2000, for more information onthe AOL Business Affairs department’s practices.

Reprint R0411CHarvard Business Review OnPoint 8339To order, see the next pageor call 800-988-0886 or 617-783-7500or go to www.hbr.org

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page 39

Further ReadingA R T I C L E SWhen to Walk Away from a Dealby Geoffrey Cullinan, Jean-Marc Le Roux, and Rolf-Magnus WeddigenHarvard Business ReviewApril 2004Product no. R0404F

This article emphasizes the importance of an implementation mind-set during mergers and acquisitions. In the realm of M&A, deal making is glamorous. Crafting agreements with imple-mentation in mind is not. For that reason, too many negotiators get “deal fever.” Rather than using due diligence to analyze the deal’s stra-tegic logic and the acquirer’s ability to realize value from the agreement, they use it to jus-tify the financial viability of their prospective acquisition.

The authors suggest ways in which compa-nies can improve their due diligence capabili-ties. In particular, effective due diligence re-quires answering four basic questions: 1) What are we really buying? 2) What is the target’s stand-alone value? 3) Where are the syner-gies—and the potential pitfalls? 4) What’s our walk-away price? Answering these questions will affirm—or quash—the strategic rationale for a prospective acquisition.

Turning Negotiation into a Corporate Capabilityby Danny ErtelHarvard Business ReviewNovember 2000Product no. 5394

Ertel sheds additional light on the concept of managing negotiation like a business pro-cess. Four practices can help ensure that deals conducted by your company collectively make—not break—your firm’s bottom line:

1) Create a negotiation infrastructure. Provide all negotiators with information on past and current deals, and clarify each agreement’s connection to corporate priorities. 2) Broaden your measures of success. Evaluate deals not just by their financial merits but also by how well they improve communication with sup-pliers, stimulate fresher solutions, and gener-ate more workable commitments. Link those measures to negotiators’ incentives. 3) Distin-guish between the deal and the relationship. Agree not to resolve deal-related issues, such as conflicts over pricing, by exacting conces-sions that would erode trust and mutual re-spect. 4) Learn to walk away from a deal. Define your BATNA—your best alternatives to a ne-gotiated agreement—before the bargaining begins. Then evaluate proposed agreements against your BATNA. If your BATNA is better than any offering put on the table, walk away.

http://www.hbr.org





4th article from the collection: Masterful Negotiating, 2nd Edition

page 40


by Ron S. Fortgang, David A. Lax, and

James K. Sebenius




41 Article Summary

42 Negotiating the Spirit of the Deal



52 Further Reading

Product 3051



page 41


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The deal looked so promising: a merger of Deutsche Bank and Dresdner, which would have produced the world’s third largest bank. But the agreement unraveled within hours of its announcement.

What happened? While the parties had agreed to the letter of the deal—the eco-nomic contract—they neglected its spirit—the social contract—which included as-sumptions that the new entity wouldn’t sell a Dresdner division.

Though parties may agree to identical terms on paper, they may have contrasting expectations about how their agreement will work in practice. Unless they concur on the social contract—that is, by explicitly discussing assumptions before cementing a deal—the agreement may sour.

THE SOCIAL CONTRACT

The social contract has two levels:

• The underlying social contract answers, What is our agreement’s nature and pur-pose? Is this a short- or long-term deal? A discrete transaction or partnership? How much autonomy will each party have? What decisions will each participate in? Par-ties differing in basic ways—small versus large, entrepreneurial versus bureaucratic, and so on—often hold divergent views of the underlying social contract.

• The ongoing social contract answers, How will we work together? How will we com-municate? Consult with each other? Re-solve disputes? Handle surprises?

RISK FACTORS

Lack of awareness causes most social-contract misunderstandings. Parties form expectations about how the deal will be implemented but don’t necessarily discuss them. Certain condi-tions are especially ripe for misunderstand-ings:

• Cultures clash. When a U.S. plant manager instigated downsizing at NCR Japan, differ-ing cultural expectations about lifetime employment sparked organization of a union and a supplier boycott at NCR Japan.

• Third parties drive the deal. When invest-ment bankers or other professional negoti-ators drive deals, conflicting social-contract assumptions can be overlooked. Involve those who must make the deal work in the negotiating process—where they can begin forging a positive social contract.

Example:When Matsushita Electric considered ac-quiring MCA (owner of movie studios and record companies), former talent agent Michael Ovitz brokered the deal. To build momentum, Ovitz separated the parties during negotiation—unwittingly causing each side to form distorted views of the other’s intentions. Result? Post-deal friction and Matsushita’s sale of MCA to Seagram several years later—at a $1.64 billion loss.

• Too few parties are involved in the deal. Even tightly aligned social and economic contracts can fragment if only a few individ-uals share the agreement’s expectations. Widen the web of dependencies through-out your company to cultivate more sus-tainable relationships—and greater com-mitment to implementing agreements.

DOVETAILING THE CONTRACTS

To boost your deal’s chances of success, make economic and social contracts mutually rein-forcing.

Example:To save its business in the late 1980s, Chrysler defined a new social contract em-phasizing cooperation and long-term part-nerships with suppliers, expecting them to improve their own performance and en-hance Chrysler’s overall operations. It also revised its economic contracts. Rather than selecting lowest bidders, it prequalified suppliers based on their engineering and manufacturing capabilities and past perfor-mance, then lengthened contract life from two to four years. The payoff? A 32% reduc-tion in vehicle-development time and rise in per-vehicle profit from $250 to $2,110.


by Ron S. Fortgang, David A. Lax, and James K.

Sebenius

harvard business review • february 2003 page 42

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You know how to hammer out the terms of an economic contract—

but what about the social contract?

Experienced negotiators are generally com-fortable working out the terms of an eco-nomic contract: They bargain for the bestprice, haggle over equity splits, and iron outdetailed exit clauses. But these same seasonedprofessionals often spend so much time ham-mering out the letter of the deal that they paylittle attention to the social contract, or thespirit of the deal. So while the parties agree tothe same terms on paper, they may actuallyhave very different expectations about howthe agreement will work in practice. Withouttheir arriving at a true meeting of the minds,the deal they’ve signed may sour.

Consider the fate of a joint venturelaunched by two chains: a national hospital or-ganization and a regional health care provider.Executives at these organizations realized thattwo of their hospitals, located near each other,were competing for doctors’ practices andbuilding redundant facilities. In response, theyenthusiastically negotiated a joint venture thatwould manage the two hospitals and buy orbuild needed facilities within their shared area.

The two partners created a governancesystem and appointed managers to whomthey offered incentives to maximize the ven-ture’s profits. Yet despite compelling eco-nomics, the arrangement didn’t last—largelybecause the partners held clashing but un-spoken assumptions about the joint ven-ture’s purpose. Moreover, the contract theyactually negotiated didn’t fit either organiza-tion’s real objective.

Because the national chain had only onehospital in the region, it resisted economicallysensible steps, like eliminating redundant de-partments, which were consistent with thejoint venture’s formal contract and manage-ment incentives. The national chain was un-derstandably concerned that the joint venturemight one day fail and its hospital—now offer-ing reduced services—would no longer becompetitive. Executives at the regional chain,by contrast, saw the joint venture as a way toextend and rationalize their regional network.They persisted in trying to make the regionaloperation more efficient, but the formal con-



tract and management incentives—to maxi-mize only the joint venture’s profits—con-flicted with that mission, too. Had the partiesbetter understood each other’s views of the un-derlying purpose of the venture in the firstplace, they might have forged a more limited,but more effective, agreement. Such a dealwould have ignored possible operating effi-ciencies and focused on gains from jointly buy-ing practices and building shared feeder facili-ties. As it happened, each organization’sunderlying expectations clashed both with theother’s and with the actual contract, trans-forming enthusiasm and potential profits intoa swamp of recriminations.

Based on our participation in hundreds ofnegotiations and a growing body of academicwork on implicit and “relational” contracts,we have come to believe that cultivating ashared understanding of the spirit of the dealcan be every bit as important as agreeing onthe letter of the deal.1 This article explainswhat the social contract is, shows how theparties’ views of the social contract cansharply diverge, explores problems that arisewhen the social and economic contracts areat odds, and suggests ways to negotiate bothso that they are independently strong as wellas mutually reinforcing.

The Underlying Social ContractThe term “social contract” carries politicalconnotations, bringing to mind the writings ofLocke and Rousseau, but we use the concepton a radically smaller scale. In a negotiationcontext, we define the social contract in termsof the parties’ expectations. This contract hastwo levels: The underlying social contract an-swers the question, What? (For instance, arewe working out a series of discrete transac-tions or a real partnership? What is the real na-ture, extent, and duration of our agreement?)The ongoing social contract answers the ques-tion, How? (In practice, how will we make de-cisions, handle unforeseen events, communi-cate, and resolve disputes?)

We’ll look at the underlying social contractfirst. Too many negotiators leave the underly-ing social contract implicit, which can causemisunderstandings and ultimately poison a re-lationship. Rather than discuss their expecta-tions during negotiations, the parties projecttheir own reasonable, but sometimes incom-patible, assumptions about the fundamental

nature of the deal. Some people, for instance,view a contract as a starting point for a prob-lem-solving relationship. Dan Orum, the presi-dent of Online Operations at Oxygen Media, isin that camp. He says, “The five words I mosthate to hear in my business dealings [are], ‘It’snot in the contract.’” If the person he is negoti-ating with takes a more legalistic approachand sees the contract as an exhaustive descrip-tion of mutual obligations, issues are bound toarise. That’s why parties should strive for a realmeeting of the minds on whether they are en-tering a problem-solving partnership or simplymaking a series of discrete transactions. Eachapproach is valid; the important thing is to rec-ognize the potential for differing views and totry to align them.

Like clashing views of partnership versustransaction, divergent assumptions about au-tonomy versus conformity may create prob-lems when the difference is identified late inthe game. Consider what happened to an en-trepreneur who failed to get clarity on thisissue before she sold her boutique enterpriseto a very eager corporate buyer. She decided tosell and agreed to stay on for five years be-cause the purchaser assured her that she was“the essential player to lead the business to thenext level” and because she envisioned herstill-autonomous unit turbocharged by the ac-quirer’s size, reach, and resources. The respon-sible corporate executive passionately sharedher goal of taking the boutique concept global,but he simply assumed that only by followinghighly disciplined corporate procedures wouldthe global rollout be possible.

Soon after the celebratory dinner, the un-happy reality began to dawn on the seller inthe form of a legion of junior staff from HRdelivering policy manuals and patronizinglectures on who bought whom. Even thoughthe provisions of the economic contract—theletter of the deal on financial terms, gover-nance, and the like—were acceptable to her,there had clearly been no meeting of theminds on the underlying social contract.Chances are, this will be one more failed ac-quisition despite its strategic logic, the skillsand good intentions of both sides, and an ac-ceptable economic contract.

Failure to make the underlying social con-tract explicit is by no means limited to smallcompanies like the boutique enterprise. Take,for example, the proposed megamerger be-

Ron S. Fortgang ([email protected]), David A. Lax ([email protected]), and James K. Sebenius ([email protected]) are principals of Lax Sebenius, a negotiation-strategy consulting firm in Concord, Massachu-setts. They are members of the Negoti-ation Roundtable forum at Harvard Business School in Boston, where Sebe-nius is the Gordon Donaldson Professor of Business Administration. Lax and Se-benius are coauthors of The Manager as Negotiator: Bargaining for Cooper-ation and Competitive Gain (Free Press, 1986), and they are working on another book, tentatively titled 3-D Ne-gotiation: Creating and Claiming Value for the Long Term.








tween Deutsche Bank and Dresdner, whichwould have produced the third-largest bankin the world (with $1.25 trillion in assets),leading many people to view the planneddeal as a landmark in the transformation ofEurope’s financial services industry. Thebanks planned to merge their retail opera-tions, enabling them to close about 700branches and concentrate on their more prof-itable corporate businesses.

Throughout the negotiations, Deutschechairman Rolf Breuer implied that this was tobe a “merger of equals.” Although the newbank was to bear Deutsche Bank’s name, thecorporate color was to be Dresdner’s green.Bernhard Walter, Dresdner’s chairman, wasparticularly concerned that Deutsche wouldsell off Dresdner Kleinwort Benson (DrKB),which had contributed more than half of Dres-dner’s 1999 pretax profits. Aware of Dresdner’ssensitivities, Breuer uttered words that wouldsoon haunt him: “[DrKB] is a jewel, and wewant to keep that jewel. It will be neitherclosed nor sold, and any reports to the con-trary are ‘barer Unsinn’ [pure nonsense].” Sat-isfied, Walter declared, “A merger means youcombine both parts into a new whole. I neverhad the slightest feeling that things would godifferently.”

Yet within hours of the joint announcementof the merger, Deutsche apparently decided tosell DrKB, believing that its own investment-banking arm had further global reach. And byselling the unit, Breuer wouldn’t have to gothrough the long and expensive process of in-tegrating DrKB’s 7,500 employees. WhenDrKB staff members learned of this decision(from a Financial Times article by a source whocame to be called the “torchman”), theymoved to a state of alert.2 The report mobi-lized powerful internal opponents to block thedeal. In light of this clash—together withgrowing investor doubts about the deal’s busi-ness rationale and actual terms—the mergerwas called off, after a month of furious negoti-ations, protestations of misunderstanding, andefforts at compromise. During that time, Deut-sche’s share price plunged 19%, and Dresdner’sfell almost as much. Whether by accident ordesign, Deutsche’s vision of the underlying so-cial contract was at odds with Dresdner’s, andthose opposing assumptions helped to doomthe deal.

Parties that differ in basic ways are espe-

cially likely to hold divergent views of the un-derlying social contract. Such differencescould involve the companies’ size, organiza-tional approach, and business focus: small ver-sus large, entrepreneurial versus bureaucratic,centrally managed versus decentralized, and fi-nance driven versus operations centered. Forexample, serious postalliance ownership con-flict between Northwest Airlines and KLMRoyal Dutch Airlines was less due to a culturalclash than it was exacerbated by a disagree-ment over management focus and risk toler-ance. Pieter Bouw, KLM’s Dutch president,stressed airline operations and conservative fi-nancial management. Gary Wilson and AlChecchi were high-profile, risk-taking finan-ciers who had acquired Northwest in a highlyleveraged buyout. Even agreement on theterms of an economic contract could not re-solve those fundamentally different ap-proaches to running an airline.

The examples given thus far illustrate someof the issues that need to be aired aboutwhether minds have truly met on the underly-ing social contract. Other questions include, Isthis a short- or long-term deal? Is it openendedor task specific? Will it be learning or produc-tion oriented? Do we believe in lifetime or at-will employment? In countless deals, the tangi-ble terms may seem fine, but the two sides re-alize only when it’s too late that the realitydoesn’t match their expectations.

Although agreeing on the underlying so-cial contract is important, a degree of whatdiplomats call “constructive ambiguity” issometimes appropriate. Imagine, for exam-ple, two companies that both want control ina proposed equity joint venture. If pressed tofully resolve the issue at the outset, theywould probably walk away from the deal. Yetif they could agree to launch a pilot venturewith shared control, even if each side still be-lieves that it must have total control in the ul-timate venture, the deal might build theirconfidence in their ability to work together—even without such control. Success in thepilot could change the way they approach thesocial contract in the larger deal. As theFrench saying goes, “There could be no trea-ties without conflicting mental reservations.”The trick, of course, is to distinguish true con-fidence-building steps from the papering overof fatal differences.

The most common

causes of social contract

problems are lack of

awareness and benign

neglect.



The Ongoing Social ContractJust as important as the underlying social con-tract is the ongoing social contract. It answersthe question, How will we work together?Properly negotiated, it outlines the broad pro-cess expectations for how the parties will in-teract: norms for communication, consulta-tion, and decision making; how unforeseenevents will be handled; dispute resolution;conditions and means for renegotiation; andthe like.

A positive ongoing social contract can fos-ter efficient sharing of information; lower thecosts of complex adaptation; permit rapid ex-ploitation of unexpected opportunities with-out the parties having to write, monitor, andenforce complete contracts; and reduce trans-action costs and even fears of exploitation. Infact, in a 1997 study of North American andAsian automakers and suppliers, then Whar-ton professor Jeffrey Dyer found that “Gen-eral Motors procurement (transaction) costswere more than twice those of Chrysler’s andsix times higher than Toyota’s. GM’s transac-tion costs are persistently higher…becausesuppliers view GM as a much less trustworthyorganization.”

Clearly, a well-functioning ongoing socialcontract is beneficial, but too often, partnershold conflicting expectations. Imagine, for ex-ample, that a global manufacturer has a jointventure with a major local distributor. The re-lationship runs smoothly until the manufac-turer approaches another distributor aboutselling a different product line. Since the eco-nomic contract governing their joint venturesaid nothing about the new line, the manufac-turer may think it perfectly reasonable to useanother distributor. But the first distributormay have expected to have been given the op-portunity and may think that the manufac-turer has acted in bad faith. Because their as-sumptions were never made clear, theirrelationship suffers, even though no actualbreach of contract has occurred.

Because conscious efforts to shape the so-cial contract can help stave off problems likethis, we suggest that both sides conduct anaudit of sorts. They should formally ask suchstraightforward questions as, How will we han-dle proprietary information? About what ac-tions—inside and outside the bounds of thedeal—will we inform each other? How do weproperly launch a partnership? (For more on

questions to ask in an audit, see the sidebar“Conducting an Audit: Sample Questions.”)

A final note on forging a productive ongo-ing social contract: It is often beneficial for se-nior executives to be involved in every stage ofthe deal. Ford and Mazda did an excellent jobat this. In 1969, the automakers began a re-markable strategic partnership, initially drivenby Ford’s search for a low-cost productionsource and Mazda’s desire to break into theU.S. market. Serious disputes erupted becauseof U.S.—Japanese political tensions, efforts toprotect proprietary technology, cultural differ-ences, product design, and material selection.To deal with these problems, senior executives(three top managers from Ford and Mazdaand six other operating heads) held a three-daysummit every eight months. The first two daysof these summits were devoted to strategy andoperations, but the third typically functionedto repair or realign the social contract asneeded.

Risk FactorsThe most common causes of social contractproblems are lack of awareness and benign ne-glect. The parties involved inevitably form ex-pectations about how the deal will be carriedout, whether they discuss them or not. Even ifinitially compatible, those expectations can si-lently shift in response to actions taken, eventhough no overt negotiation takes place. Ofcourse, if costly misunderstandings are to beavoided, it’s normally in the parties’ best inter-ests to make their expectations explicit andnegotiable. And red flags should go up whenespecially challenging conditions, such as thefollowing, are present:

When Cultures Clash. Negotiators from di-verse organizational, professional, or na-tional cultures often bring clashing assump-tions to the table. As Ming-Jer Chen, theformer director of Wharton’s Global ChineseBusiness Initiative, explains in Inside ChineseBusiness, “The Chinese perceive contracts astoo rigid to take new circumstances into ac-count. Hence, there is no stigma to changingthe terms of an agreement after it has beensigned.” That approach often frustrates busi-nesspeople who assume a signed contract is adone deal and a complete, fixed descriptionof each side’s obligations.

Consider how cultural expectations dam-aged relationships at NCR Japan. While the



company was U.S. owned, it had a history ofstable lifetime employment and a union thatenjoyed close relations with management.However, when the plant’s first U.S. managerinstigated downsizing to enhance returns—even though the plant was profitable—em-ployees resisted this perceived violation of theunderlying social contract. A second union wasquickly organized, and it took a far more ad-versarial approach, demanding higher wagesand insisting on job guarantees. Local suppli-ers saw the company as untrustworthy and re-fused to do business with it. A full decade afterthe plant manager was ousted, the secondunion remained in power, and the supplierboycott continued.

This example underscores not only the riskof underestimating differences between cul-tures but also the strength of the backlash toperceived breaches of a social contract. It’s im-portant to note here that not all breaches need

be fatal; how they are handled can strengthenor rupture the social contract. If a breach is in-advertent, for example, managers normallyshould acknowledge it and reassure the otherside that the “violation” was unintentional,not exploitative. Indeed, sincere efforts to re-build confidence can often buttress the exist-ing social contract.

When the Wrong Minds Meet. Sometimesproblems arise not because of cultural differ-ences but instead because the right people arenot involved in negotiations. For example,when two CEOs negotiate a strategic partner-ship—say between a retailer and a supplier—they may stress the importance of many di-mensions of cooperation, the mutual need forservice and quality, and the long-term timehorizon of the joint effort. Yet the retailbuyer, for instance—mainly compensated onthe basis of quarterly numbers—refers to “ourstrategic partnership” primarily to beat price

Conducting an AuditSample QuestionsDiscussing expectations before you sign a deal can greatly increase the odds of its success. To help you get that conversation started, here are some sample questions about the letter and spirit of your deal.

Underlying Social ContractReal nature and purpose of the agreement

Do you envision a discrete transaction or a partnership? A merger of equals or some-thing quite different? Are you building an institution for the long term or making a fi-nancial investment with a nearer horizon? What is the driving culture (operational, for example, or research oriented)?

Scope and duration

Is your agreement focused on a discrete, short-term task, or is it open-ended? Is it a likely prelude to a larger or different ar-rangement? What kinds of actions, even outside the bounds of the deal, do you ex-pect to be told about? And about which do you expect some say?

Ongoing Social ContractConsultation

How fully, formally, and frequently do you expect to consult with the other side? How extensively will you and your partner share or protect information?

Decision making

Beyond the formal governance mecha-nisms, by what process do you want to dis-cuss and make decisions: by consensus or majority? Informally or formally? Who will be involved?

Dispute resolution

In the case of conflict, what approach do you expect to use: informal discussion, me-diation, binding arbitration, court? What if disagreement persists?

Reevaluation and renegotiation

How will you handle unexpected challenges (such as changing economics or competitive dynamics)? What should trigger reevalua-tion or renegotiation, and what should you and your partner expect from each other in such a case?

Meeting of the Minds and FitAlignment

Do the economic and social contracts rein-force each other? If they don’t, what should you and your partner do to align them?

Shared perceptions

All things considered, what’s your view of the social and economic contracts? What do others in your organization think? What is the other side’s view, and does it mesh with yours? How do you know? How can you and your partner ensure that you have a real meeting of the minds on your perceptions? If you discover divergent perceptions, how should you resolve them?



reductions out of the supplier. This problemwill persist unless senior retail executiveswork to reset employees’ expectations and in-centives at the working level when they forgewhat they see as a strategic alliance.

There are other, less obvious, ways that keyparties are inadvertently omitted from socialcontract negotiations. For example, in 1988,Komatsu, Japan’s leader in earth-moving con-struction equipment, and U.S. conglomerateDresser Industries combined their NorthAmerican engineering, manufacturing, andmarketing efforts to attain what they called a“mountain of treasure.” Dresser sought Ko-matsu’s design technology and a cash infusionfor plant modernization and capital expendi-tures. Komatsu hoped to become a successfulglobal player, so it wanted better North Ameri-can market penetration. While preserving par-allel brands and distributorships, Komatsu andDresser created a 50-50 joint venture (Ko-matsu Dresser Corporation, or KDC), mergingmanufacturing, engineering, and finance oper-ations. The joint venture maintained equalmanagement representation on the six-personoversight committee and agreed to a $200 mil-lion investment. Beyond the economic termsof the companies’ arrangement, they aimed tofoster a strong social contract between theirmanagement teams.

Yet the implementation of their arrange-ment strained the emerging deal, and the sep-arate distributors, who never subscribed tothe new expectations, began competing forsales. Tensions escalated: Komatsu sawDresser as backward and unresponsive;Dresser complained of learning about key Ko-matsu decisions after the fact. As the situa-tion worsened, executives from both compa-nies clamped down on communications,which prevented dealers from getting vital in-formation about their counterpart’s inven-tory levels and warranty coverage, further ex-acerbating the conflict.

Despite the efforts of industrial consultantsand a last-minute plan to swap employees be-tween the two companies, the dealer conflictsintensified, KDC market share declinedsharply, losses mounted, 2,000 jobs were cut,and ultimately, the venture was dissolved. Sub-ject to more than the usual cross-cultural haz-ards, KDC suffered: It failed to ensure that po-tentially influential parties bought into thenew social contract.

When Third Parties Drive the Deal. Fail-ure also happens when one team, such as thebusiness development unit, uses a heavilyprice-driven process to negotiate an allianceor acquisition. Once the parties agree to theterms, the team “throws it over the fence” tooperational management, which is stuck withthe unenviable job of forging a strong, posi-tive social contract after the fact. Jerry Ka-plan, Go Technologies’ founder, was espe-cially critical of the negotiation process IBMused when it invested in Go. As Kaplan ex-plains in Startup, “Rather than empoweringthe responsible party to make the deal, IBMassigns a professional negotiator, who knowsor cares little for the substance of the agree-ment but has absolute authority.” With a pro-cess like that, the right minds have littlechance of truly meeting on the underlying so-cial contract. It’s almost always best to get themanagers who must make the deal work in-volved in the negotiating process, where theycan begin to forge a positive social contract.

In some cases, investment bankers or otherdeal makers with a powerful interest in mak-ing a transaction happen—for better orworse—can divert the principals’ attentionfrom possibly fatal differences in their views ofthe underlying social contract. For example,Matsushita Electric’s primary rationale forpaying $6.59 billion for MCA—owner of moviestudios, record companies, and theme parks—was to ensure a steady flow of creative soft-ware for its global hardware businesses. SeniorMCA management agreed to the acquisition,expecting the new, cash-rich Japanese parentto provide capital for acquiring more recordcompanies, a television network, and so on, allof which were vital to helping the combinedcompanies compete with rivals such as Disneyand Cap Cities/ABC.

To get the deal done, however, MichaelOvitz, talent agent turned unorthodox corpo-rate matchmaker, kept the parties mostlyapart during the process, managing expecta-tions separately on each side and building mo-mentum until the deal was virtually closed.Neither side did its due diligence on their mu-tual perceptions of the real underlying socialcontract—partly because of the culturalchasms dividing old-line industrial Japan, cre-ative Hollywood, and the New York financialcommunity, but largely due to the deal-drivingthird party (Ovitz). As a result, each side had

Different parties can

hold wildly divergent

expectations about the

deal, even when they’ve

signed the same piece of

paper.



an optimistic but badly distorted view of theother’s real intentions, leading to postdeal fric-tion and the sale of MCA a few years later toSeagram, at a substantial loss to Matsushitaboth in financial terms (roughly $1.64 billion)and in prestige.

When Too Few Parties Are Involved in theDeal. Even a tightly aligned social and eco-nomic contract can be vulnerable if the expec-tations and agreements that underlie it areshared by only a select few. Senior partners inconsulting firms, for instance, often dependprimarily on their relationships with CEOs intheir client companies. But if the CEO leaves,the consulting firm may lose the account.Consciously creating a wider web of involve-ments and dependencies throughout the firmwould result in a more sustainable relation-ship—and greater commitment to implemen-tation of agreed-upon recommendations—even when fewer participants could completethe consulting projects more efficiently.

Dovetailing the ContractsIt can be tempting to regard the social con-tract as unwritten and psychological and theeconomic contract as written and tangible.Yet the two can be productively dovetailed,with elements of the economic contract di-rectly tied to the social one. Sometimes, theway to arrange such a fit seems obvious: A dis-crete, project-oriented agreement, for in-stance, should have clean, workable exit andtermination provisions linked to both sides’understanding of when their shared objectiveis accomplished (or has become impossible).By contrast, if a deal’s central aim is ongoingknowledge transfer, negotiators might setterms in the economic contract that wouldfurther that goal. For instance, when Wal-Mart and Procter & Gamble formed an alli-ance, interface team members signed confi-dentiality agreements, binding them from re-leasing information from team discussionseven to their own parent companies. This ce-mented the group’s commitment to total dis-cretion and unleashed greater creativity, sincemembers could try things out without fearthat proprietary data would be shared outsidethe alliance team. Whatever the goal of thedeal, it will generally be much easier to reachif the economic and social contracts are mutu-ally reinforcing.

Some companies have mastered this skill.

Italian apparel-maker Benetton, for example,has enjoyed many successes in new markets byfollowing a tried-and-true formula. First, it es-tablishes a local agent to develop licensees forproducts from Italy; then it develops local pro-duction capability, partnering with an areabusiness for further market development. Ifthat is successful, it buys out its partner, whichtypically retains a significant role, and inte-grates the foreign subsidiary into Benetton’sglobal network. This staged approach hasworked repeatedly because Benetton’s con-tracts with its local partners explicitly detailthe expected trajectory of the partnership andinclude formal mechanisms to accomplish itsstated goal.

Many companies bungle the kind of smoothtransitions Benetton often achieves becausethey fail to fully vet expectations about howtheir partnerships will run. If negotiations arehandled poorly, high-status local partners canend up feeling betrayed and devalued by unex-pected buyout initiatives. In addition, badlyhandled negotiations can result in unworkablevaluation formulas that lead to disagreements,impasses, and the like. No successful privateequity or venture capital firm would investwithout establishing clear exit expectations forwhen milestones have been met or when cir-cumstances have changed. Despite the poten-tial awkwardness of negotiating a prenuptialagreement while heading into marriage, mostcompanies should spell out similar provisionsin their contracts.

To highlight how critical it is to dovetail theletter and spirit of a deal, we like to contrasttwo cases, negotiated by different experiencedinvestors during the same year, in which subse-quent attitudes toward the deal played keyroles. The first involved prominent pediatri-cians who were looking for assistance to makea series of interactive CDs on parenting issues.A venture investor provided capital in returnfor a half-interest in the new company thatwould own all the doctors’ products in thisbusiness area. The investor helped the doctorscreate a demo CD, wrote a business plan andmarketing materials, and showed the entirepackage to key people at major software pub-lishing houses. When a publisher expressed en-thusiasm, the doctors surprised the investor byarguing that “he owned too much of the com-pany,” that “their ideas and reputation werethe company,” and that he should willingly re-



duce his stake. Needless to say, after all thetime and effort he had invested in developingthe company, he felt stung. When efforts atresolution reached an impasse, the new com-pany languished, and the agreement blockedthe doctors from developing their ideas else-where. Clearly, both sides neglected to workthrough different scenarios to test the per-ceived fairness and psychological sustainabilityof the deal, firm up their social contract, andalter the economics if necessary. As a result,great value was left unrealized.

By contrast, consider the contract a differ-ent investor designed when he was ap-proached by a commercial banker who fi-nanced independent filmmakers. Althoughfilmmaking is a risky business, the banker hadnot lost money on any of his 41 loans—in partbecause he had nurtured worldwide contactsand then presold foreign rights. Unhappy withhis compensation as a bank employee, he wasplanning to leave and start a film-finance com-pany. To get the fledgling business off theground, he was seeking an $18 million invest-ment to complement the $2 million he wouldcontribute, and he offered the investor 90% ofthe new company.

Even though the investor’s analysis pro-jected a 100% annual rate of return on this in-vestment, he turned down the offer and coun-terproposed a deal that was, in fact, morelucrative for the banker and less so for himself.The investor reasoned that in two or threeyears he would have simply taken the place ofthe bank, providing little but commodity capi-tal, and the banker-entrepreneur would endup seeking a better deal from new capitalsources. Therefore, his counteroffer containeda series of results-linked options: The bankerwould be able to buy back some of the inves-tor’s equity at a relatively low price after theinvestor had received his first $5 million, thenbuy back more equity after the investor had re-ceived the next $5 million, and so on. At eachpoint under this deal structure, it would be inthe banker’s interest to stay in the relationshiprather than to start out on his own again. Theinvestor’s projected rate of return on this offerwas closer to 30%. But he preferred to sign acontract stipulating a 30% return that he be-lieved he would actually receive rather thanone with a 100% return on paper that wouldvery likely spur the banker to abrogate at somepoint.

This investor understood that the spirit andletter of the deal needed to complement eachother, whereas the investor who financed thedoctors’ CD development company struck aneconomically sensible but perhaps psychologi-cally naive deal. The investor involved in thefilm-finance company structured his proposalto match predictable changes in circumstancesand attitudes, and he found the right fit be-tween the economic and social contracts.

Not only should the social contract com-plement the economic one, but the economiccontract itself can also actually embody muchof the social one. In the late 1980s, for exam-ple, Chrysler deliberately restructured boththe letter and spirit of its contracts with sup-pliers to save its business. In 1989, the com-pany faced a projected $1 billion overrun on anew program, a $4.5 billion unfunded pen-sion liability, and a record loss of $664 millionin the fourth quarter. To stop the hemor-rhage, Chrysler decided to revolutionize itssupplier relationships (along with other stra-tegic measures). The automotive giant hadtraditionally given its business to the quali-fied bidder offering the lowest price, relyingon supplier competition to drive down costs.Now it looked to form long-term partnershipswith a subset of its traditional suppliers. Inthis new model, the partner was expected notonly to improve its own performance but alsoto enhance Chrysler’s operations beyond thesupply relationship.

To support this new social contract,Chrysler substantially revised its economiccontract. Rather than choosing the lowestprice from qualified bidders, Chrysler prequali-fied a group of suppliers (1,140 out of its origi-nal 2,500) based on their advanced engineer-ing and manufacturing capabilities and ontheir past performance in terms of on-time de-livery and the like. Within this smaller set ofplayers, Chrysler shifted from a system inwhich multiple suppliers competed over sepa-rate design, prototype, and production con-tracts to one in which a single supplier heldprimary responsibility for the combined de-sign, prototype, and production of a compo-nent or system.

Under the old system, the average suppliercontract lasted 2.1 years. The new approachsaw the life of an average contract grow to 4.4years, and Chrysler gave oral guarantees tomore than 90% of its suppliers that the current



business would remain with them for at leastthe life of the relevant model if performancetargets were met. Because this new social con-tract stressed cooperation, Chrysler sought toensure a fair profit for all parties. Instead of re-lying on commodity pricing to squeeze its sup-pliers, the automaker adopted a target-costingapproach that worked backward from totalcost to end user in order to calculate allowablecosts for systems, subsystems, and compo-nents. Further, in keeping with the spirit of co-operation, Chrysler required suppliers to lookbeyond their own operations and find cost-sav-ing possibilities within Chrysler itself equal toat least 5% of contract value—and supplierswould get half of the savings.

In essence, the written terms of the neweconomic contract—on selection, scope, du-ration, renewal, pricing, and performance re-quirements—consciously underpinned thenew social contract emphasizing longer-term,integrated partnerships. The results were im-pressive: Chrysler was able to cut the timeneeded to develop a vehicle from an averageof 234 weeks during the 1980s to 160 weeks in1997—a 32% reduction. The cost of develop-ing a vehicle plunged between 20% and 40%during the 1990s, and profit per vehiclejumped from an average of $250 during thelate 1980s to a record of $2,110 in 1994. A newsocial contract deeply intertwined with thenew economic one was largely responsible forthese results.

Clearly, Chrysler saw dramatic improve-ments, but this particular social-economic con-tract combination isn’t right for every com-pany. Forging tight partnerships with a muchsmaller supplier base has some drawbacks.These include the difficulty of further shrink-ing the supplier base as relationships deepenas well as the risk of being “held up” by a criti-cal supplier that has no real competition, espe-cially in a tough economy. The crucial point,however, is that the underlying and ongoingsocial contracts consist of more than purely“psychological” expectations; they can andshould be embedded in and complemented bythe formal economic contract.

Common MisperceptionsWe have witnessed dozens of deals unravel orfall well short of their potential because theparticipants failed to achieve a meeting of theminds on the spirit of the deal. To avoid that

fate, make sure you don’t fall prey to the fol-lowing misperceptions:

Many people believe that the social con-tract is primarily about the working relation-ship. But as we’ve shown, the social contractdefines not just how the relationship will pro-ceed but also exactly what the real nature ofthe relationship is. So while the ongoing socialcontract covers the working relationship—in-cluding expectations about communication,consultation, decision making, dispute resolu-tion, and opportunities for renegotiation—theunderlying social contract outlines expecta-tions about the fundamental purpose, extent,and duration of the deal.

Another popular misconception is that theterm “social contract” means a cooperative,democratic, and participatory relationship.The social contract can embody those ideals,but it need not. Indeed, a productive socialcontract could detail an autocratic relationshipor an “eat what you kill” culture. What’s key isthat both parties move toward shared expecta-tions about the deal.

Many people think that a social contract im-plies that the parties involved have a sharedview. As we’ve shown, different parties canhold wildly divergent expectations about thedeal, even when they’ve signed the same pieceof paper. Reaching a shared understanding iscrucial, but getting to that point takes focusand energy. A healthy social contract, mutu-ally understood, is a goal, not a given.

Too many people set themselves up for fail-ure because they think negotiation stops whenthe ink dries. However, even after the eco-nomic contract has been signed and mindshave met on the underlying social contract,the parties should consider adapting the agree-ment to changed circumstances. And, by con-tinuing to invest in the ongoing social con-tract, the people involved can help avoid costlymisinterpretations and can greatly enhancethe value of the economic contract, especiallywhen they want to explore new opportunitiesor must tackle unexpected challenges.

A final misperception, and one that bearsrepeating, is that the social contract must beprimarily psychological, or “soft”—not some-thing that can be spelled out in a writtenagreement. But as we’ve shown, key provisionsof the social contract—such as expectationsabout the nature and duration of the relation-ship—can often be made explicit in the eco-



nomic contract. Negotiating complementaryeconomic and social contracts greatly im-proves the odds that the deal will deliver thebenefits it promises on paper.

The authors wish to thank Ashish Nanda, whoprovided invaluable insights and examples, aswell as John Hammond, Rosabeth Moss Kanter,Deborah Kolb, Richard Meyer, Ken Mildwaters,Howard Raiffa, Jeff Weiss, Michael Yoshino,and members of the Harvard NegotiationRoundtable.

1. Sources for such studies, along with a more complete setof sources for this article, can be downloaded from http://www.people.hbs.edu/jsebenius/hbr/negotiating_the_spirit_of_the_deal_v3-41b.pdf.

2. “Torch That Sent a Deal Down in Flames,” FinancialTimes, April 12, 2000.

Reprint R0302E; Harvard Business Review OnPoint 3051To order, see the next pageor call 800-988-0886 or 617-783-7500or go to www.hbr.org

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Further ReadingA R T I C L E SHarnessing the Science of Persuasion by Robert B. CialdiniHarvard Business ReviewOctober 2001Product no. 7915

It’s never going to be easy to hammer out economic and social contracts, but behavioral psychologists have found that the art of per-suasion isn’t all that mysterious. In fact, per-suasion is governed by several principles that can be taught and applied: 1) People are more likely to follow someone who is similar to them. 2) People are more willing to cooperate with those who are not only similar to them, but like them, as well. 3) Experiments confirm that people treat you the way you treat them. 4) Individuals are more likely to keep promises they make voluntarily, publicly, and in writing. 5) People defer to experts.

Cialdini explores the implications of these principles have, and shows how mastering them will help you sway the undecided and convert the opposition.

Betting on the Future: The Virtues of Contingent Contracts by Max H. Bazerman and James J. GillespieHarvard Business ReviewSeptember–October 1999Product no. 99501

The ongoing social contract can also include differing expectations about the future—which can create an impasse. For example, the negotiators may be so confident in their predictions—or so suspicious of one an-other’s motives—that they refuse to com-promise.

A contingent contract can help break the im-passe. The agreement’s terms aren’t finalized until the uncertain event in question—the contingency—takes place. Contingent con-tracts offer numerous benefits. For example, they enable a difference of opinion to be-come the basis of agreement, not an obstacle

to it, and they reduce risk by sharing it among the parties.

Negotiating Without a Net: A Conversation with the NYPD’s Dominick J. Misino Harvard Business ReviewOctober 2002Product no. R0210C

A seasoned crisis negotiator, Misino has de-fused numerous potentially fatal hostage situ-ations. How? He views each negotiation as a series of small agreements and orchestrates those agreements so his adversary learns to trust him and see his viewpoint.

For example, through applied common sense, Misino shows his adversary respect, ex-plores alternatives to violence, and asks his adversary if he wants the truth—which cre-ates a sense of agreement. These techniques are surprisingly applicable to business negoti-ations in which the parties seem equally in-tractable—and failure is not an option.

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