Learning MBA Master Degree

TEACHER: Hi. Let’s begin this Module by observing my friend Jim in the process of negotiating the purchase of a car. This is a very different situation from the one described in Module VI, where the negotiation was about a limited production luxury sports car. Jim is looking for a standard car and there are many competitors in this market; several brands as well as different points of sale for the same brand. The salespersons normally can not afford to act as "aggressive reds". But they can and often do use ploys and tricks. The salesperson, named D.Seller, is standing at Jim's side as the latter looks at a car in the showroom.

JIM: What is the price of this car here?

SELLER: You have good taste, sir. A very nice car. List price is $ 10,000. We have to move it, so today it will be only $9,000. (A seller’s voluntary Bogey! And he is being obsequious, too, calling young Jim "sir").

JIM: (Does not give buying signal). I see.

SELLER: It has 4-way stereo, that will be $300 more.

JIM: (Does not give buying signal). Mm.

SELLER: The only car we have for delivery today has genuine leather upholstery. Beautiful, really. And only $ 400 more.

JIM: (Does not give buying signal). I see.

SELLER: OK, that will be all, except this car has a special 1.8 liter motor while the standard is only 1.5 liter. You will feel the extra power, for sure. And it’s only $500.

JIM: (Does not give buying signal). I see. Anything else special about this particular car?

SELLER: No, that’s all. Just $ 10,200 for a beautiful machine. Let’s walk to the office to do the paperwork. Are you going to pay cash or will you need us to help you get a bank loan?
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TEACHER: The seller is using the ASSUMPTIVE CLOSE tactic. It is a classic seller’s ploy. A positive answer by the buyer is a commitment to buy.
Jim will counter it by making it clear he is not ready to answer this question.
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JIM: No, I am not ready to walk to the office now, nor to answer your question about a bank loan. Now that you have finally told me the features this car has and the total price, we may begin negotiating. Unless you still have some more add-ons you wish to mention!
...
TEACHER: The seller has been using the ADD-ON tactic first and when he thought that Jim was interested enough, he used the assumptive close tactic. The latter consists in quoting a basic price and then keep adding features, each priced individually.

Jim countered by not giving any buying signal and waiting until he actually knew the total asking price for the basic product plus all the add-ons the seller was going to mention. Only then did he show an interest in starting to negotiate, but still did not give any buying signal, and let the seller know that he had discovered his add-on ploy. Let’s watch a little more.

JIM: (after negotiating for a while, makes a conditional offer). OK, if you pay for the insurance for the first year, I am ready to pay 9,200 dollars for the car.

SELLER: I don’t think my boss will accept such a low offer, but you just wait for me here, I am going into the office and I will try to convince him.
...
TEACHER: The seller is probably leaving Jim to admire the car a little more and then come back with a counteroffer, or reject Jim’s offer outright. By suspending the negotiation he is using the ADJOURNMENT tactic, the equivalent of a time-out. It may be effective; Jim may convince himself during the adjournment that he can not get a better deal, but it is risky tactic for the seller. Jim may change his mind and walk away. He may talk to his wife on his cell phone and she may not agree with the purchase, or advise him to visit another car dealer; many things may happen during an adjournment.

Another risk of this tactic presents itself if the party asking for the adjournment comes back and sustains the previous position, like the seller saying to Jim: "sorry, the boss said no way". This creates hostility because Jim would have developed expectations assuming that the seller would come back at least with a counteroffer. Admittedly, in this particular case the seller would probably bring back a counteroffer, but there are cases when the party asking for the adjournment comes back and maintains the previous position.

But let us assume that in our case the seller comes back with a counteroffer of $9,000 (but no insurance added!) and Jim decides to buy the car. Now the time has come to sign an AGREEMENT (a nice name for a CONTRACT). Jim must make sure that the agreement he signs contains everything the seller expressed verbally. Anything not written and signed will not be part of the final transaction; people have a tendency to forget what they promised verbally. Jim should read the fine print very carefully, and if the transaction is important for him he should ask a lawyer to review it. In the world of business practically all contracts are reviewed by lawyers before being signed.

Agreements should specify who will be the arbiter in case of dispute. The parties may agree to be subject to a given legal authority, or to name a certain person or institution as arbiter. Binding or non-binding ARBITRATION in commercial matters is common due to the high cost of litigation.

JIM: (reviewing the car’s specifications): I notice that this car does not have power steering. I had assumed it had.

SELLER: Well, you did not ask, I would have told you if you had. But this is a very light car, you don’t really need power steering.
...
Jim is a predicament now. He made ASSUMPTIONS and did not check them by making specific questions. Well, at least in this case he found out that his assumptions were not correct before signing the contract; he may still back out of the deal or try to re-open the negotiation to get a lower price. But finding out that one’s assumption were wrong after signing a contract may be deadly.

Anyway, my friend Jim finally bought the car and before picking it up called his "friendly insurance broker", S.Nake. S.Nake’s friends (he claims that all his customers are his friends) call him Ess. Jim tells him the make and cost of the car, and explains the type of insurance he wants.

S.NAKE: Jim, I'll give you a deal. A comprehensive policy for only three dollars a day. A bagatelle, really!
...
S.Nake is a sophisticated person and said "bagatelle" instead of "peanuts"; and the word he used describes exactly the ploy he is using: the BAGATELLE. The total yearly cost of the insurance is $1,095, a considerable sum.. Jim might find this amount unacceptable, too onerous. But $3 a day is nothing for someone who just bought a car for nine thousand dollars!

Jim is a pretty shrewd negotiator, and counters the bagatelle ploy by grossing up to the total cost.

JIM: Ess, I don’t have my calculator with me, but you are quoting the premium at around 1100 dollars a year. Pretty expensive, Ess. I know we are friends, but business is business. I’ll call a few more brokers and get quotations.
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After closing the deal to purchase the car Jim went back to his office. He and a partner called Bob run a small construction company. They have to decide whether they will BID or not on a contract to repave several blocks of city road. The condition of this bidding procedure is that bidders must present their offers by a given date in a sealed envelope. All envelopes will be opened in a public session. Jim and Bob are aware that this system, if properly run, puts maximum pressure on sellers. If there is no secret agreement between bidders (collusion), prices can not be padded and costing must be precise.

JIM: OK, Bob, are we going to bid on this job or not?

BOB: I’m not sure, Jim. There will be many bidders. We must really calculate our costs very accurately or we may end up losing money if we win. We won’t be able to pad the price to cover ourselves for unforeseen errors in our cost calculation, or some unexpected increase in our inputs.

JIM: Is the City really going to run a "one-offer-only" process. Or will they give bidders a chance to negotiate after the envelopes are opened?

BOB: There will be no negotiation. Best bid wins. The city has established a maximum price and no bid can be higher. And all bidders must make a cash deposit; if they win and then withdraw the offer, they forsake the deposit.

JIM: Pretty tough. We have to decide if we BID / NO BID. Bidding costs may be high and a total loss if we do not win. And if we win and if we make a mistake we may lose money, too.

BOB: OK, let’s prepare a check list:



1. What happens if we do not bid? Of course we can't win if we don't bid and there will be no bidding costs, but... do we have spare capacity, for instance, which will remain unused if we do not win this contract?
2. What is the cost of bidding and losing?
3. What are the risks if we win the contract?
4. Can we win by emphasizing factors other than just price, such as our good reputation or the offer of road maintenance after the job is completed?


JIM: Good idea. We’ll find an answer to these questions and decide if we bid or not according to the answers. It is a fact that in this case we can not BID LAST.

BOB: No, we can’t do what we did on the "open" bidding on the private road of that country club. That was not a "closed envelope" bidding, and by bidding last we made sure we put in the best bid, since we were able to find out the prices of other competitors who had eagerly bided before us.

JIM: Bob, you run this company before we became partners. Did you ever participate in an AUCTION bidding?

BOB: Yes, a few times. In an auction bidding the firsts bids for a contract involve highly padded prices and then as competitors bid, the price comes down. In these cases you should bid only once. Do not bid at the opening. As the bid prices fall, you wait until the last offer is slightly higher than the price you set as your minimum. At this point you bid; if you don’t win, you get out. Never bid more than once.

JIM: And did you ever have to deal with a BLOCKING OFFER from your competitors?

BOB: Certainly. I was negotiating with the JGH Corporation on a contract to build a parking lot next to their office building. We were close to an agreement when out of the blue my competitor I PAVE Inc. made an unsolicited offer for the same job at about 30% off my price. Naturally JGH suspended negotiations with me and started to negotiate with I PAVE Inc. I withdrew my offer because I closed another deal and had all my equipment employed. As soon as I PAVE Inc. found out about my withdrawal, they started to ADD ON, inventing "last minute difficulties", "unexpected increases in input costs", etc., until their total price was higher that mine. JGH Inc. called me back, but by then I could not bid again because almost all my equipment was in use, and they had to settle with I PAVE Inc.

JIM: And how could the JGH Co. have acted to protect itself when receiving I PAVE’s blocking offer?

BOB: A surprisingly low offer is to be suspected. JGH could have asked I PAVE to make a deposit amounting to the difference of their offer with my company’s bid as a condition to stop negotiating with me. I PAVE would forfeit the deposit if they did not make good on their offer as stated.

And I could have countered by telling JGH to request such a deposit from I PAVE. I am sure I PAVE would have refused and I would have won the contract. But I was inexperienced then, and I let it pass.

Sometimes a blocking offer is made not with the intention of finally winning a contract, but just to damage a competitor, forcing him to reduce his price and profits on a contract.

JIM: Excuse me, Bob, I am only your junior partner. But when JGH called you back to negotiate, didn't you at least have part of the necessary equipment idle?

BOB: Yes, I had some idle capacity, but not enough to do the job.

JIM: And did you explore the chance of a COALITION (a JOINT VENTURE) with a competitor?

BOB: No, I didn't because at that time I did not have the benefit you now have: the advice of an experienced senior partner! Right, I could have tried to negotiate a joint venture with another construction company. We could have joined forces and won the contract.

As you know a joint venture is a partnership but it differs from a "normal" partnership because it is limited to either a specific objective or a specific time frame, or both. It is a very frequent type of agreement between firms with many variations. For instance, in September 2002 IBM and Intel agreed to jointly design and develop modular server solutions, commonly called blade servers (computers). Of course, entering into a joint venture or coalition involves a lot of additional negotiations. Interests of the participants in a the joint venture differ. And many times, as would have been the case in the example we are discussing, the parties in a coalition are also competitors. The risk of disclosing information that may be damaging in future competitive situations is very high.

Once the Joint Venture is formed, it has to negotiate with its customers and suppliers. This involves the risk of inside disagreements between the members of the coalition. If some members have more power than others, they can be tempted to make COMMAND DECISIONS; deciding about tactics or agreements without their partner’s agreement. Sometimes a command decision is better than no decision at all, but in general it is disruptive of the joint venture’s operation.

And don’t forget, when a Joint Venture is formed, the conditions on how and when to end it must be clearly stated.

JIM: And I guess that, maybe even more that in any other negotiation, within a Joint Venture effective COMMUNICATIONS are vital.

BOB: You bet. Messages sent are not necessarily the same that are received. There is a very interesting game kindergarten children play: they call it the "malfunctioning phone line". A group of kids sit or stand in a circle. The "originator" tells something no one else can hear to the child next to him or her. The message goes around the circle until it returns to the "originator". Almost always the return message is very different from the original one, and children have a lot of fun comparing the different versions. Serious business negotiators have left kindergarten many years ago, but they still misunderstand each other a lot.

JIM: My father used to do business in Asia and he told me stories about how people from different cultures must be very careful to get the right messages across. Different interpretations of verbal and body languages may cause serious problems.

BOB: Yes, a problem made worse because in fact one of the parties, or both of them, may not be using their own native language. I was once negotiating with a very polite businesswoman in Hong Kong, and at certain point she told me: "I can’t hear you". So I raised my voice and she repeated that she couldn't hear me. This happened several times, until I realized that what she meant to say was "I don’t understand you". She was hearing me perfectly; she simply did not understand the English expression I was using! It is very important to learn as much as possible of the culture and customs of the people one negotiates with. In the West if you are introduced to a small child it is a nice gesture to touch the child’s head; in Thailand it is an offense. There are hundred’s of examples of this type of mistake one can make. When starting negotiations with people from very different cultures I used to excuse myself in advance for any blunder I could commit due to my ignorance of local customs and communication "codes".

JIM: I heard of a type of partnership which does not share profits or costs, but the relationship has mutual benefits for each other, and the success of one is influenced by the success/failure of the other.

BOB: Yes, this arrangement is also very frequent. A good example may be a company naming another to be the prime supplier of a certain product or service. If this arrangement works well, it means more business for the supplier and additional favors and benefits for the purchaser, e.g. in the form of technical support.

JIM: Getting back to our day-to-day business, yesterday I called on our prospective customer KKL and after I quoted our price they asked for a COST BREAKDOWN. I know you don’t like to do this, but how can I counter?

BOB: Let’s be more precise. I don’t like to give it, but I love to get it from my suppliers! Because a cost breakdown easily reveals the padding of prices, or at least reveals the sellers weak points. To resist a demand for a cost breakdown, you may show a written policy from our company prohibiting it; or claim it would reveal "confidential or secret proprietary information". Or being more practical, tell the customer that he should compare our final prices with our competitors’, instead of being concerned about our internal business practices.

JIM: OK, I will do that with KKL. But I understand many large companies, as for instance car manufacturers, demand and get this from their suppliers.

BOB: "Manufacturers" of cars and other complicated products like aircraft actually manufacture a very small part of the components of the final product; most of the parts are built by suppliers bases upon the manufacturer’s specifications. Of course companies like Ford or GE have a lot of clout with suppliers and usually demand and get cost breakdowns. But there is a positive aspect of discussing cost breakdowns in this particular type of relationships. Because companies like GM or Boeing, although they may not actually manufacture certain parts, have a lot of expertise and may actually help a supplier to reduce costs for mutual benefit
JIM: One more issue I wish to discuss. At a cocktail party I met Dick Jones, the owner of DJ Constructions. As you know, we compete mainly in building internal roads for country clubs and closed communities. He suggested we divide the physical area in which we compete into two regions, one for each of us, to reduce competition.

BOB: I see. He wants us to enter into DISTRIBUTIVE BARGAINING. I am not refusing, but let us discuss the pros and cons. Obviously this is going to be a zero sum situation as to the number of our prospective customers. Each possible area of operation we agree not to compete in, he gains for himself, and vice-versa. On the other hand, it may be advantageous for both companies if reduced competition allowed us to increase our prices.

JIM: So, how should we proceed?

BOB: Naturally in this type of territorial negotiations we will both want to reserve and keep our existing customers, even if they eventually fall into the other party’s physical territory. Since we are presently negotiating with several prospective customers, I suggest we use a ploy. You know this is not our usual conduct, but this time I want to apply a DELAYING PLOY. Because the more of our prospective customers we sign up before closing a territorial agreement with DJ Constructions, the better for us.

JIM: And how do you intend to produce these delays?

BOB: I know a few tricks. We can quibble about details, take long adjournments, tell him you and I have a disagreement we must solve first, one of us may get "diplomatically ill", or we can provoke a few not too serious rows, and so on.

JIM: And what if Dick applies the same strategy of delaying an agreement and uses the same tricks (sorry, tactics) you plan to use?

BOB: He probably will do it, and this is why reaching an agreement in Distributive Bargaining is very difficult, be it between us and DJ Constructions, or between Brazil and Colombia trying to divide up the world coffee market, or between two Mafia "families" distributing their zones of operation. And after an agreement is reached, it is very difficult to implement because most of the times both parties will cheat as much as they think they can get away with.

TEACHER: I hope you have enjoyed the dialogue between Bob and Jim, and learned something at the same time. Let’s see how much you have learned!