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Negotiating without Wrecking a Relationship

Your objective in every negotiation you undertake is to create value and capture value. Creating value means identifying potentially complementary interests with your counterparts and finding ways to make mutually beneficial trades. In this way, you “enlarge the pie” rather than just fight over slices of a smaller one. Capturing value means making sure you get an acceptable slice of the pie that is to be divided.

But what about negotiating in the context of on-going relationships? What, if anything, should you do differently in terms of creating and capturing value when you are dealing with other parties—suppliers, customers, key stakeholders, even others in your organization—with whom you will engage in many negotiations over time?

The answer is that relationships with your negotiating counterparts are worth something only if there is some measure of trust. Though it’s often used, “trust” is a word that is not very well understood. In fact, there are three potential benefits that are bundled together in the idea of trust: reliability, reciprocity, and recourse.

Reliability is the straightforward notion that each side delivers what it promises to deliver to the other. This is valuable because it reduces the following costs for negotiators:

  • Search costs—the costs of identifying and vetting suitable counterparts with whom to do business
  • Transactions costs—the costs of concluding and implementing each deal, for example, the costs of negotiating and drafting contracts, for example
  • Monitoring costs—the costs of monitoring counterparts’ actions to make sure they do what they promised to do

The result is a joint gain the parties create and divide between them. If your relationship with a key customer is damaged, you could continue to do business, but search costs and monitoring costs will increase, and size/value of the “pie” to be divided between you will decrease.

Reciprocity is the expectation there will be give and take between the sides over time, and that the ledger need not balance for each and every deal. One immediate benefit is that parties in reciprocal relationships can make trades across time. One side can capture more of the value in one deal with the expectation that the other side will get more in later deals. This creates additional joint value if the parties have complementary interests in terms of the timing of their needs. An example is seen if you sometimes need a supplier to respond much faster than normal in terms of delivering systems but can compensate by relaxing the delivery schedule for a future order.

A related implication is that you build what might be thought of as a “relationship bank account,” with each side being able to “lend” in times of need with confidence that repayment will occur. Of course, this also creates risks. After all, people default on loan repayment all the time.

Recourse is the third potential source of relationship joint gains. Recourse means you and your counterparts have the means to enforce your agreements in the event of nonperformance by the other side. How this works depends on the extent to which the relationship is grounded in formal contracts and informal understandings. Formal contracts give the parties recourse to the courts and the law of contracts. While parties to contracts can rarely be forced to engage in “specific performance” of their terms, breach of contract renders the offending party liable to be sued for damages. The prospect of this happening, and the associated legal costs if it does, raises the expected costs of not meeting one’s obligations.

If a business relationship is not anchored in a contract but on informal understandings, these still can powerfully influence the parties’ incentives to meet their obligations. Because future gains are essentially held hostage to acceptable performance in current dealings, if you fail to live up to the terms of an informal understanding with a negotiating partner, you should expect to lose the benefits of future dealings.

Finally, what about situations where you will never negotiate again? In this type of negotiation, does it matter what your counterparts think about you once a deal gets done? Can you not do whatever is necessary to create and (especially) capture value, and not worry about sustainability or relationships?

The answer is a very qualified “yes,” but only if the following two additional conditions are met:

  • There will be no communication, direct or indirect, between your current counterparts and anyone else with whom you negotiate in the future. If this is not the case, then your conduct could impact your reputation in ways that will make it more difficult for you to create and capture value in the future.
  • The agreement you reach is “self-enforcing”; that is, there is no concern that it will be abrogated or that your counterparts will fail to implement it fully. If this is not the case, then your conduct could impact the sustainability of the agreement.

But the fact that we had to work so hard to come up with a situation where relationships and reputation don’t matter is telling. In fact, it’s wise to assume that reputation and relationships always matter, even if you are doing a series of one-off deals with different counterparts.