New England Biz Law Update
The Sarbanes-Oxley Act seeks to govern the privileged few: CEOs, CFOs, securities analysts, accountants, officers, directors, and audit committees. For the most part, the rest of us are sellers, buyers, or service providers.
What ethical principles govern our behavior? Can ethical behavior generate measurable benefits beyond penalty avoidance?
Many companies say they are committed to ethics throughout their organization. Moving this commitment to action needs to happen on many levels. Beyond just doing good, companies need to do well.
This article proves that a commitment to ethics for buyers directly translates into measurable procurement savings and a lower cost of ownership of goods and services in every category. Avoiding the penalties associated with ethics violations is a welcome by-product. Penalty avoidance need not and should not be the primary driver.
The country’s leading ethicists universally agree that proving “ethics pays” is a difficult, if not impossible, task.1 The argument must be cast in the negative. These experts correctly state that the most persuasive test to date is that unethical behavior can be costly.2
Many find it repugnant to talk of the economic benefits of ethics. We simply should adhere to the highest standards of professional and ethical conduct because it is the “right thing to do.” The reality is that most human beings are survivalists and act out of self-interest subscribing to “what’s in it for me.” Whether we like it or not, we need to prove that “ethics pays.”
Throughout this article, “Buyer” will refer to any company employee that is responsible for negotiating with suppliers of goods or services. Buyer can refer to any one of the following professionals: procurement; senior executives; operations; marketing; technology; raw materials; supplies; utilities; real estate; construction; freight; human resources; legal; finance; risk management. “Supplier” will refer to the companies with which Buyer negotiates to obtain such goods and services.
The message to Buyer and Supplier must go way beyond the adage, “behave ethically because it is the right thing to do.” Fundamental ethical principles should be taught as a foundational discipline by parents, family, friends, and advisers. It is difficult to assess the ethical quotient (EQ) of our employees. Therefore, we must prove to them through effective training and coaching that integrity-based procurement best practices translate directly into unprecedented savings for their company and help secure their future.
Who Needs Ethical Guidelines?
The recent scandals at Enron, Tyco, Adelphia, WorldCom, and the like only involved a few bad apples. The individuals who perpetrated these breaches of trust comprise a tiny percentage of the workforce in just a small number of companies. Those responsible held the respective title CEO, CFO, securities analyst, accountant, officer, director, and general counsel.
When these pyramid schemes of assorted varieties were discovered, the whole house of cards came down. Companies were destroyed, fortunes wiped-out, jobs lost – far beyond the jobs held by the wrongdoers. Some of the guilty went to jail, but most of them just received huge severance awards. We have lost confidence in the equity markets and corporate governance in general. Congress responded by passing the Sarbanes-Oxley Act of 2002 to reform both governance and corporate accounting practices.
Do we have our eye on the right ball? The “ball” is the neglected super-majority.
Over 98 percent of the workforce is made up of buyers, sellers, and service providers. These individuals are engaged in negotiations everyday with each other, with staff, with colleagues, and with bosses.
Who governs their ethical conduct? The answer is, “they do.” Of course, companies promulgate codes of conduct to assist in the implementation of consistent corporate values. All of the companies mentioned above had in place eloquent codes and policies drafted by the most knowledgeable lawyers and consultants.
However, at the end of the day, these principles were just words on paper that (i) were not well read; (ii) were not well understood, (iii) were not adequately communicated, or (iv) had little alignment with the true business objectives valued by the company. In addition, enforcement of these codes is at best inconsistent.
Upon exposure of a violation, if the employee in question is valued, the company’s executives may make excuses for the employee’s behavior and persuade themselves that the employee ought to be given another chance given her long service to the company. Does the cost of having to retain and train a replacement exceed the cost of giving the offender another chance?
Are Codes Of Conduct Enough?
Most corporate codes of conduct and ethics state that personal honesty and corporate integrity are high priorities of the company. What else would they say? It takes a strong individual to translate those words into his/her daily activities.
On an annual basis, employees are required to read the code, fill out a questionnaire, and sign an acknowledgment. These companies may track the percentage of employees who executed and returned the code and they are placed in a file.
The best compliance programs ensure that 100 percent of employees sign the forms. It is a best practice for companies to track the content of employee disclosures using an automated system. One such company requires its employees to make disclosures in writing prior to attending a meal, local sporting event, or local golf outing with a Supplier representative present.
For all other events attended by employees with Supplier representatives present, the employee must obtain prior written permission from the CEO and employee’s supervisor. The system gives senior management a clear picture of which employees are being entertained, by which Supplier, how often, and the approximate value of such entertainment.3
Even the best compliance programs with signed codes and disclosures are not enough. The codes do not have a soul. They do not adequately communicate and reinforce the company’s corporate values. Employees observe their colleagues, supervisors, and/or senior executives circumventing the stated values and are confused as to why they should comply.
In one global manufacturing company, there is a stated zero tolerance policy with regard to employee acceptance of gifts or entertainment from vendors. It is well known in the company that some departments adhere to the policy and some do not. Employees in the departments that follow the policy complain that Supplier-funded perquisites are a right of passage or entitlement for every Buyer.
Continuous Improvement Training Model
Companies need to provide integrity-based negotiation training to Buyers, sellers, and service providers as well as to senior management to make its corporate values come alive. These values need to be communicated with a consistent message at every opportunity throughout the organization.
This training should be delivered informally at every staff meeting and other internal assemblages held within the company. In addition, the company should provide a broad range of employees with formal workshops designed to give employees the essential tools to continuously improve their negotiation skills. The CEO or other high-ranking executives should kick-off each training session sharing personal views and stories emphasizing her ethical values and making it clear that violations of these values will not be tolerated at the company and that enforcement will be consistently applied.
This formal training should be delivered to employees every year as part of an initiative to link ethics to negotiation excellence. A successful training session will devote ample time to answer participants’ questions about conflicts that the company’s code of conduct does not adequately address their everyday negotiating challenges. Allowing other participants to help colleagues answer these questions develops trust among employees and creates an environment where the change-management process is accelerated.
Below are 20 key integrity-based negotiation best practices and philosophies to ensure that companies significantly reduce their procurement costs and strengthen Supplier relationships. Procurement best practices and ethical principles can and should universally be applied to every negotiation.
However, realistic expectations must be applied to any change process. Companies should analyze each transaction to determine which of these best practices will maximize the return while maintaining the highest level of integrity throughout the organization.
1. Duty Of Loyalty And Fiduciary-Like Duty Applies To Buyers
In most states, employees owe their employers a “duty of loyalty” regardless of whether they have a formal employment contract. This duty of loyalty forbids an employee from both aiding a competitor and taking company business for themselves, either during normal work hours or while at the employer’s place of business.
Although drawing an analogy here is arguably somewhat of a stretch, employers are less competitive when their Buyer’s leave “money on the table” in a negotiation. It probably does not rise to a legal duty of loyalty, but failure to generate the optimal value for Buyer’s employer is a moral violation of Buyer’s obligation of loyalty to the company.
Alternatively, does Buyer owe her employer a fiduciary duty? This is the fiduciary’s obligation to act in the best interest of the company. Most CEOs expect each employee to act in the company’s best interest. However, this is not a legal duty of the type owed by a corporation’s board member to the shareholders, a trustee to the trust’s beneficiaries, an attorney to a client, or a doctor to a patient.
A Buyer owes her employer a “fiduciary-like” duty to minimize the total cost of a product or service for equal or greater value. A Supplier has a reciprocal duty to maximize profit for her employer. Although this is not a legal duty, it is a moral and ethical imperative. Buyer and Supplier must view their employer’s money as if it were their own.
This theory has some pitfalls, however, as many individuals are irresponsible with their own money. An example might be a person who pays near the asking price for major purchases such as a home or car for a variety of reasons: (i) they wanted the item too badly, (ii) feared they would lose the deal if the agreement was not signed by a deadline, (ii) had no time to negotiate, (iv) views negotiating as an adversarial and undesirable experience, or (v) believed it was a fair price without comparing it to best alternatives. A Buyer should consider practicing the highest standard of integrity-based negotiation skills in the context of their personal transactions and focus on building relationships with children, significant others, family, friends, and others with whom they come in contact.
The critical question is who defines the negotiation principles and ethical standards by which Buyer and Supplier must live? Unfortunately, most companies leave it up to the individual employees to establish their own best practices. This is very empowering to the employees but is not in the best interest of the company.
This set of incentives promotes a situational view of negotiations where the outcome is dependent on the negotiator’s personal judgment, timing, and experience. When companies develop objective standards and an institutional process, these best practices can be systematically evaluated and fine-tuned.
2. The Enemy Of Objective Decision-Making: Subjective Influence
From the beginning of time, a Supplier has strategically and systematically tried to influence the decision-making ability of a Buyer, often by providing entertainment, gifts, or other things of value.
The Supplier is able to justify significant budgets towards this objective and their CFOs authorize this expenditure every year. Supplier may be offered bonuses or incentives to spend more with Buyer. Supplier engages in this practice because it works.
For example, a Buyer may more easily renew a contract with the incumbent Supplier rather than put the contract out to bid. Buyer may not negotiate Supplier’s asking price. Buyer may look the other way when Supplier fails to satisfy its obligations, or Supplier may “take” a price increase without challenge.
As one would expect, Buyer maintains that acceptance of things of value from Supplier does not influence her objective decision making ability in favor of the generous Supplier. They cannot both be right. Although each position is just the opposite pole of an argument, the fact that Supplier continues to invest in the influence game supports the conclusion that Buyer is unable to make completely objective decisions when Buyer receives or expects to receive things of value from Supplier. Where there is a quid, there is always a quo.
Some companies may prohibit employees from taking things of value. If Buyer works for one of these companies, Supplier may try to exert subjective influence in other ways, such as finding employment for Buyer’s relative, or making a donation to Buyer’s favorite charity.
If Supplier succeeds in influencing Buyer using subjective criteria, Buyer may have left significant dollars on the table, failing to meet Buyer’s fiduciary-like responsibility. Buyer can justify the conflict of interest by asserting that Buyer has a duty to “maintain the relationship” with Supplier. Subjective influence gets Supplier in the door and may even build trust. Although trust is a valid criterion for measuring value, it does not necessarily follow that Supplier is offering Buyer best value.
3. The Paradox Of Superiority Allows Supplier To Control The Negotiation Process
In Supplier’s attempt to influence Buyer, Supplier treats Buyer as a superior in the relationship. Supplier subscribes to “he who holds the purse strings holds the power” or “the customer always is right.”
This does not serve Buyer well, and in the long run, does not serve Supplier well in the collaborative negotiation process. Supplier knows that this appeals heavily to Buyer’s expectation and ego. Sales calls are rarely made from the Supplier’s place of business. Supplier customarily pays for meals and entertainment. Supplier sends birthday, anniversary, and holiday cards and gifts to Buyer. Supplier waits in Buyer’s reception area for hours on end.
Supplier is hesitant to challenge Buyer’s business plan or objectives for fear of reprisal. A superior/subordinate mentality also may create an environment where Buyer treats Supplier with less respect than they would internal colleagues or bosses, thus promoting an adversarial environment, and a lack of trust.
All of this tactical subordination by Supplier effectively influences the decision-making ability of Buyer. Meetings at Buyer’s facility allow Supplier better access to information about Buyer’s company. Supplier studies the exact push-points of Buyer and learns who are the key decision-makers in Buyer’s chain of command, often “coincidentally” running into these executives while on-site.
Because Supplier travels to Buyer’s place of business and may wait an inordinate amount of time in the reception area, Buyer ironically allows Supplier to control the meeting. Buyer conducts little due diligence because Buyer mistakenly believes that Buyer is in control of the negotiation. Buyer’s paradoxical superiority gives Buyer a false sense of security.
Instead of having a productive brainstorming session to create new value, Supplier may be permitted to present the unabridged version of Supplier’s presentation often consisting of a lengthy power-point proposal. Supplier effectively monopolizes the meeting, leaving little time for discussion or joint problem solving. Buyer may “feel” better about a process in which Buyer is superior, but Buyer leaves significant opportunity on the table.
Supplier is strategically better informed, better prepared, and more in control. However, Supplier’s apparent control of the negotiation causes them to miss opportunities to improve their business and/or supply chain. Supplier who dominates the process may not learn enough about Buyer’s real needs and does not listen to Buyer’s interests.
4. Maintaining The Relationship For The Wrong Reasons
Buyer often confuses the relationship with the substantive issues of the negotiation (e.g., “I had to take a price increase, this Supplier has been good to us and their proposed cost is consistent with market value.”).
How does Buyer “know” fair market value unless Buyer develops multiple alternatives and compares Supplier’s offer against Buyer’s best alternative? These alternatives must be continually improved to expand the field of potential Suppliers, to conduct multiple rounds of negotiations, to find ways to help Supplier better help Buyer, and to develop “make” analyses.
Separating the relationship from the substance of every deal is critical to objective negotiations. Often Buyer hears from Supplier, “You are killing me,” “You are causing me to lose money on the deal,” “It’s cutting into my commission,” “I will go out of business at these prices,” and so on.
These are not valid criteria for Buyer to maintain the relationship with Supplier. In other words, it is giving in. Supplier only will agree to a deal that is better or equal to Supplier’s best alternative.
Roger Fisher, a prominent Harvard law professor, calls this your BATNA.4 However, if Supplier agrees to a deal that is worse than Supplier’s break-even point, Supplier has decided to make an investment in securing Buyer’s business and in strengthening the relationship.
Of course, there is more risk for Supplier when they are not receiving their standard margins. Whether the investment was a sound economic decision will be determined in the long term. Furthermore, Buyer is not asking Supplier to lower its pricing to all of its customers; only to Buyer. In other words, Supplier need not share this value creation with all of its customers. It can make its exorbitant margins with all other customers. To the contrary, Buyer wants a competitive advantage – enter state and Federal antitrust law.
Sophisticated Supplier immediately sees an opportunity to shield itself from offering a better deal to Buyer by asserting the limitations under the Robinson Patman Act, more affectionately referred to as the “Fairness Doctrine.” The Robinson-Patman Act was passed by the U.S. Congress in 1936 to supplement the Clayton Antitrust Act of 1914. The act, advanced by Congressman Wright Patman, forbids any person or firm engaged in interstate commerce to discriminate in price to different purchasers of the same commodity when the effect would be to lessen competition or to create a monopoly.
Supplier asserts that its lawyers have restricted its ability to give better deals to select customers because antitrust laws require that Supplier treat customers the same to protect competition.
But a Buyer should not allow Supplier to assert that they are required to treat everyone equally without serious challenge. There are many adequate defenses to violations of Robinson Patman, such as (i) cost justification, (ii) meeting-competition, (iii) changing conditions, and (iv) functional availability. The easiest of these defenses, “meeting competition,” just happens to fit nicely into procurement best practices that require Buyers to seek alternatives. Supplier is permitted to provide Buyer with a better cost in order to beat competition. Supplier is not required to pass this new cost onto its other customers. Of course, if Buyer has not developed alternatives, there is no benchmark for Supplier to target.
Buyer must ask the question, “Is this deal better than my best alternative?” Even if Buyer were responsible enough to ask that question, often Buyer has not made the investment in time to develop best alternatives and must conclude that Buyer has no alternatives to the current situation. Senior executives would be shocked at the consistency of responses to the questions, “what are your alternatives?” or “what is your BATNA?” Buyer often replies “we have no alternatives [or BATNA]” or “the risk of changing our Supplier is too great and I know we have a good price.”
5. Fair Market Value Can Be Determined Only At The Conclusion Of A Transaction
It is impossible to know if you have a good price without the ability to benchmark against best alternatives. Supplier attempts to convince Buyer that its price is a “fair” price – as if fair market value were a constant.
To the contrary, fair market value is a moving target at every point in time based on supply and demand, business strategy, perception, and countless other factors. Supplier may say to Buyer, “the price you are willing to pay is unfair and below market.” Buyer may say to Supplier, “your asking price is unfairly high.”
This use of the term “fair” is a powerful tactic because it seems to call into question a person’s integrity. Often, the negotiator accused of being unfair gives in to the other’s demands in order to restore his/her honor. Although few negotiators would admit to this behavior, this scenario is much too prevalent to be dismissed as unrealistic.
The best negotiators know that fair behavior is defined by honest/respectful dealing and that fair market value is defined by the terms of an executed contract between willing parties. Buyer accused of being unfair, may respond, “Whether I will pay a ‘fair’ price for your product or service depends on whether we sign a contract. If the price I am willing to pay is too low from your perspective, I will have no choice but to resort to one of my best alternatives, and I will respect your decision to walk away from this opportunity. If the terms of our arrangement exceed both of our best alternatives and meet our respective interests, we will sign a contract and we will then know the meaning of ‘fair’ market value.”
6. Value Is A Function Of Insecurity
Buyer has a fiduciary-like responsibility to optimize the use of leverage during every aspect of a negotiation. It is important for Buyer and Supplier to secure each other’s trust and confidence throughout their relationship. However, it is equally critical for Buyer to keep Supplier insecure as to whether or not Supplier is likely to obtain and/or maintain Buyer’s business.
The more Supplier’s level of insecurity increases, the greater is Supplier’s willingness to seek creative solutions to problems facing Buyer. Conversely, Supplier who is able to convince Buyer that Supplier is uniquely situated and that Supplier is Buyer’s best alternative will create a higher level of insecurity on the part of Buyer. Buyer may pay a premium for products or services of a Supplier who is perceived to be one of a kind.
7. Arbitrary Deadlines Influence Behavior
One way Supplier attempts to achieve insecurity on the part of Buyer is by stipulating a deadline, such as, “this pricing is only good through 5 p.m. Friday.” Most deadlines are arbitrary, and “this offer expires,” is no exception. Humor is an effective alternative to capitulation. Buyer may inquire, “does your offer turn into a pumpkin at 5 p.m. Friday?”
Without time to develop better alternatives, Buyer is influenced by arbitrary deadlines, and may pay an unnecessary premium. It is Buyer’s fiduciary-like obligation to challenge all such deadlines, or at a minimum, investigate the rational behind the limitation. Supplier may perceive the deadline as real. For example, Supplier’s bonus may be contingent on booking a sale by the end of a fiscal quarter, or a key component used to manufacture Supplier’s product is going up in price. It is Buyer’s job to seek creative alternatives to reduce the urgency of an apparent deadline.
8. Structure Supply Agreements To Maximize Leverage
Buyer should structure its supply agreements to maximize its negotiation leverage throughout the term. For example, if Buyer agrees to a volume commitment, Supplier holds all of the negotiating power during the relationship. However, if Buyer is obligated to a fixed price on projected volume only, Supplier will be motivated throughout the agreement term to perform at the highest levels of delivery, quality, consistency, and may still have to adjust prices downward should market conditions change.
It is Buyer’s fiduciary-like obligation to negotiate for more favorable provisions, such as termination rights with or without cause, most favored pricing, liquidated damages for breaches, back-to-dollar-one rebate opportunities, longer payment terms with discounts for early payment, objective quality standards, improved delivery and service levels, insurance-backed contingency planning, limited excusable delay, and many others.
9. The Evils Of Premature Selection
Buyer often rushes to the finish line – a very costly practice. Buyer feels compelled to expedite communication to the Supplier with the greatest likelihood of being awarded the contract. It gets worse. Buyer also may notify the losing suppliers that they will not be awarded the contract. The problem is Buyer’s loss of leverage and Supplier’s increased level of security.
Buyer commits these errors without executing a best practices procurement process: specifications still may be unclear; multiple rounds of negotiations have not been conducted; Buyer has not analyzed creative alternatives; all terms of the deal have not been discussed; there is no contract. Buyer may claim that it has an ethical obligation to inform the finalist in order to reward Supplier for its hard work in responding to the bid request. Furthermore, Buyer feels a duty to inform the losers so as to not “string them along.”
Buyer may feel better about the process, but Buyer has lost all leverage at this point in the negotiation with finalist and will have “face saving” issues with the runners-up if Buyer has to go back to them in the event that the finalist’s supply agreement falls through. Full disclosure in the request for proposal and good communication with each Supplier throughout the process allows Buyer to reserve communication of the outcome until the final agreement is signed. In fact, it could be a serious breach of ethics for Buyer to subtly signal to Supplier that it is the likely winner.
10. Maintain The Relationship: Strategic Approach
Insecurity and fear are great motivators to change the behavior of others in a negotiation. When should Buyer and Supplier work hard to create a secure and comfortable environment? It benefits all parties to build trust, respect, and reputation. Buyer has a fiduciary-like duty to develop a strategic approach to relationship building in order to better influence Supplier. Essentially, Buyer must become a best-in-class sales professional.
Like the carrot a driver dangles in front of his donkey to keep him moving, Buyer needs to dangle the carrot of opportunity to motivate Supplier to invest in Buyer. One such “investment” could be Supplier accepting lower margins to secure Buyer’s business. Instead of investing in a customer’s business, Supplier can invest in its own plant and equipment. Supplier makes these investment decisions every day. Supplier must be convinced that its investment will generate greater benefits in the future, such as filling plant capacity, disposing of excess inventory, maintaining market share, gaining access to wider client base, improving reputation, and greater economies of scale.
11. Collaborative Approach To Negotiations
History repeats itself. Human nature tends to be consistent and predictable. Our automatic filters encourage us to take an adversarial approach to every interaction or negotiation. First, we are protecting ourselves from whatever we happen to fear. Second, we have a Darwinian propensity to be competitive – to win. A collaborative approach almost always discovers hidden incremental value for both sides.
Buyer should develop strategies to approach Supplier with collaboration opportunities. Assuming that Supplier’s product or service performs as promised, examples of collaboration agreements include: (i) Buyer will attend one industry conference per year at Supplier’s cost to promote Supplier’s product; (ii) Buyer will make five introductions per year to non-competitors of Buyer on Supplier’s behalf; (iii) Buyer will allow Supplier to issue a Buyer-approved joint press release on the relationship and/or success of the product integration; (iv) Buyer will accept a reasonable number of Supplier prospecting calls during the year; and (v) Buyer will allow Supplier to feature their relationship in industry publications and advertisements.
There are many others. This type of collaboration can ensure Supplier’s loyalty for years to come.
12. Collaboration Redefines Supplier’s Cost Assumptions
One of the greatest lost opportunities in Buyer/Supplier negotiations is rooted in Supplier’s pricing model. Supplier’s accountant calculates Supplier’s fully loaded cost plus an expected margin and provides Supplier’s sales representatives with a pricing model that can be compared against competition. As long as the product or service is priced above the accountant’s minimum benchmark, Supplier will be profitable.
Buyer seeks to determine the lowest possible margin with which Supplier can live. Buyer rarely views Supplier’s cost as a variable.
What if Buyer approached every negotiation as a collaborative problem to be solved? In fact, what if Buyer’s employer created incentives or a bonus structure that rewarded this creative problem solving approach?
Buyer would approach Supplier and inquire, “If we can help you create new value or savings to lower your cost of operations, would you be willing to share those savings with us?” How can Supplier refuse to share savings it enjoys when such savings are generated through a collaborative process initiated by Buyer?
Granted, Supplier will be cautious until it sees evidence of these savings. Furthermore, there may be negotiations about how to measure the savings, but one thing is certain: zero savings will be generated from a traditional adversarial approach to negotiations.
The best-in-class Buyer should conduct thorough due diligence learning everything about Supplier’s business and every element of Supplier’s cost structure. Using supply chain techniques, Buyer may discover waste or inefficiencies in Supplier’s process and suggest ways to lower Supplier’s cost.
Under this scenario where Supplier can reduce its cost base, it can proportionately reduce the selling price to Buyer. Supplier does not have to share these savings with its other customers, creating exponential incremental profits for Supplier. This type of collaboration between Buyer and Supplier creates true strategic partners, solidifies their relationship, and builds trust. Each will assist the other with problem solving when unforeseeable issues or problems arise. Through this process, Supplier is forced to take a customer-focused approach in understanding its own business better.
13. Respect For Confidentiality
Would Supplier offer a better price to Buyer if Supplier thought that the preferential price offered would be disclosed to another customer of Supplier? Not a chance. This is Supplier’s worst nightmare.
Breaches of confidentiality during the sourcing process will threaten objective decision-making and causes long-term damage to the credibility of the breaching party. Buyer with the highest integrity rating will have a greater chance of convincing Supplier to provide the most aggressive pricing. Unfortunately, there is no S&P or Moody’s rating for Buyer’s credibility. Buyer must spare no expense to maintain a reputation for honesty, integrity, and ethics. In order to encourage Supplier to share information, Buyer should offer to sign a mutual non-disclosure agreement and then must respect the obligations of that promise.
Traditional Buyer/Supplier relationships often treat confidentiality as a psychological hammer – not a legal or ethical obligation. During the negotiation process, Buyer may look to “maintain the relationship” by tipping off “preferred” Supplier as to other bids. Supplier may share its bid with other competing Suppliers expecting to receive competitive market data.
Absent a confidentiality agreement with Supplier, Buyer may not have a legal obligation to keep Supplier’s bid confidential, but Buyer may have an ethical obligation. Buyer grants a “preferred” Supplier a virtual “right of first refusal” by stating, “all you have to do is meet or slightly beat your competitor’s price of [XYZ], and you have the deal.”
Of course, the “preferred” Supplier loves this practice, until Supplier is on the non-incumbent side of a future negotiation. Buyer believes that by sharing confidential information it is creating trust with the preferred Supplier. To the contrary, these practices do not engender trust and are costly to both Buyer and Supplier. True confidentiality and trust building will redefine the ethics of negotiation to ensure an objective process and optimal results for all.
14. Right Of First Refusal Is Wrong
Supplier will often ask for a contractual right of first refusal. This gives Supplier the right to meet Buyer’s best offer on a subsequent contract. Buyer should never agree to this obligation. First, Buyer has a duty to maximize the value of procurement. A right of first refusal merely requires Supplier to match the best offer. Second, if the Supplier community ever discovered this obligation, few Suppliers would engage in a bid process knowing that a competitor merely has to meet the lowest bid. Consequently, Buyer’s cost remains at a premium.
The only entitlement for a quality Supplier should be a “right to bid.” In other words, Supplier will have an opportunity to participate in a subsequent bid process, without obligation on Buyer’s part.
15. Trust Lowers The Cost Of Due Diligence
Due diligence means doing your homework. Before a Buyer issues a purchase order and before Supplier invests in the delivery of product or service for Buyer, each is required to conduct a significant amount of due diligence.
The more at stake, the greater the due diligence required. Due diligence can be expensive. When trust between Buyer and Supplier is at a high level, each can reduce its investment in due diligence as they can more rely on the word of the other. Of course, when a breach of confidentiality damages one side, trust is diminished and the future cost of due diligence increases. The cycle of relationships then forces the parties to invest again in rebuilding the trust. Often, the rebuilding is more costly and painful than the benefit, if any, realized from breaching a promise.
16. Defending Against Divide And Conquer Tactics
Supplier may win the battle, but ultimately may lose the war. Divide and conquer tactics have been used successfully on countless battlefields since the dawn of man. Negotiation between Buyer and Supplier is one such battlefield.
Supplier may attempt horizontally and vertically to influence different levels of Buyer’s organization, circumventing the authority of Buyer. When Buyer’s company fails to speak with one voice, it is perceived to have an organizational weakness. This weakness may allow Supplier to influence that part of the organization most supportive of Supplier’s position.
Whether one believes Supplier’s divide and conquer tactic to be ethical, Buyer can prevent its adverse impact in all cases, and in fact, has a fiduciary-like obligation to do so. For each transaction, Buyer’s company should anoint one team (preferably, one person) with the absolute authority to negotiate on behalf of the organization. Absent permission from Buyer’s designee, Supplier should make no communication to any one else in Buyer’s company regarding that transaction.
Buyer’s process and Buyer’s central authority must be well communicated to Supplier’s organization, including the establishment of negative consequences for Supplier who reverts to divide and conquer tactics. After such communication is made clear, Supplier’s use of divide and conquer tactic is rendered unethical and could damage Supplier’s reputation.
Absent a well-established process of centralized negotiating authority, Buyer must be ready to deal with divide and conquer tactics effectively. For example, when Supplier begins to name-drop, “I know your supervisor [or CEO],” Buyer turns this tactic to its advantage by stating, “Great, let’s get her on the line and see what she says. By the way, my authority to take [this] position comes directly from my supervisor.”
After the meeting, Buyer should contact her supervisor and respectfully request that the supervisor avoid the call stating that Buyer has full authority to negotiate on behalf of the organization, or in the alternative, if the supervisor must take the call, supervisor will support Buyer’s position.
Buyer’s capacity to gain the support of the organization to defend against divide and conquer tactics of Supplier will depend on Buyer’s ability to conduct an objective procurement process and Buyer’s reputation for treating Supplier with respect and dignity.
17. Alternatives To Lying About Alternatives
When asked whether it is acceptable to lie in negotiations, many students and executives answer in the affirmative. Many negotiators question the veracity of the other side, and from a self-preservation perspective, believe it is permissible to lie as well. Of course, this is a vicious cycle.
The most powerful force in negotiations is the ability to convince the other side that you have alternatives more favorable than the proposal they are currently offering. From the beginning of time, negotiators have lied about their respective positions in order to persuade the other side to agree to better terms.
Buyer will exaggerate or fabricate a better price then Buyer actually has been offered. Often, this causes Supplier to lower its price below that of the fictitious alternative. On the other hand, Supplier may invent an arbitrary deadline until which an offer is valid. Fearing that Supplier may pull the “money off the table,” Buyer may prematurely agree to Supplier’s offer before Buyer has an opportunity to explore better alternatives.
Lying about alternatives is unethical, and in a business context, may be in violation under both federal and state fair trade statutes. Ironically, lying is unnecessary. In the short-term, lying may appear to be an effective tactic. If you believe in the premise that “justice prevails,” and “crime does not pay,” you know that tactical dishonesty often is exposed immediately and eventually uncovered. When the lie is exposed, the liar’s credibility is rendered bankrupt and may require years of reparations to once again build trust.
The good news is that there are alternatives to lying about alternatives. Buyer must be confident that honesty is, not only the right thing to do, but also the best economic decision.
The following best practices obviate the need for dishonesty: (i) Buyer conducts sufficient due diligence on Supplier and the product/service being offered; (ii) Buyer focuses on developing trust to convince Supplier that partnering with Buyer will improve Supplier’s short-term objectives and long-term bottom line; (iii) Buyer must believe that he/she always has more favorable alternatives (i.e., multiple Suppliers, build vs. outsourcing, or no deal due to inadequate return on investment); and (iv) Buyer uses the power of language to signal alternative ranges without lying about specifics offers.5
Buyer may state, “I have alternatives,” “I believe I can do better,” or otherwise suggest that Buyer is confident about his/her alternatives and is willing to walk away from [this] deal. This is a game of high stakes poker where it is Buyer’s job to create insecurity in the mind of Supplier as to whether Buyer has superior alternatives – without lying or committing fraud.
18. The Build vs. Buy Alternative – Preference vs. Willingness
If Buyer’s total cost of outsourcing a product or service is greater than the cost of Buyer building the product or service internally, Buyer has an ethical obligation to consider the economic value of this “make” alternative. When it is suggested that Buyer’s company should consider building, the customary response is “this is not our core competence and we do not want to make the product or service.”
Whether Buyer’s company prefers to build is irrelevant. There is no moral imperative for Buyer to disclose to Supplier that building internally is not Buyer’s preference. A critical component of Buyer’s due diligence may be the development of a credible build analysis. Essentially, Buyer becomes a potential competitor of Supplier’s. This is a straight-face test: Can Buyer state with honesty that it is willing to build. In the right situation, Buyer’s build alternative may leave Buyer with no choice but to cultivate a new core competence.
19. Full Disclosure Is The Cure To Many Ethical Dilemmas
“Always tell the truth because it is easier to remember,” said my Grandpa Robert.
You cannot get caught in a lie if you do not have to manufacture the truth. Unfortunately, many people regard telling the truth as a permission paradox.
In other words, if I disclose my true intentions, I will not be able to get what I want. Of course, if the intended action is dishonorable, this concern is valid. However, most people do not have evil intentions. They may hold the erroneous belief that disclosing valid information is a sign of weakness.
Recently, many large consulting firms have come under scrutiny for retaining rebates for travel paid for by their clients. Any ethical dilemma would have been cured by fully disclosing the practice to clients by asking permission to retain the rebates. If the client condones the practice (in writing preferably), presumably the consultant may keep the rebates without issue. Full disclosure builds trust, which serves to improve strategic relationships.
As part of the Supplier prequalification process, Buyer may assert multiple reasons why certain Suppliers ought not to be included in the bid process. This is a scenario where Buyer may use ethics as a crutch to freeze-out potential suppliers.
Buyer asserts that it would be unethical to include this non-preferred Supplier in the bid process “knowing” that they will not be awarded the business. “How can I sleep nights knowing that a non-preferred Supplier is responding to a request for proposal, investing in a prototype, and flying representatives to my facility?”
First, given that eliminating assumptions is a best practice in procurement, it may be a costly mistake for Buyer to prejudge the outcome. Second, exclusion of bidders reduces Buyer’s alternative power-base (BATNA), increasing Buyer’s cost of procurement.
Again, full disclosure is the preferred prescription. Buyer simply communicates the reasons that this Supplier is not favored, after which Buyer inquires whether Supplier still wants to be included in the bid process. It is a rare occasion that Supplier will decline to be included, and more often than not, Supplier will see this as an opportunity to use Buyer’s feedback to improve its business.
Buyer has eliminated the ethical issue because Supplier made an informed decision to enter the bid process. Increased competition will lower Buyer’s cost of procurement – everyone wins.
20. Supplier Diversity Beyond Political Correctness
Buyer’s implementation of a strategy promoting Supplier diversity is a negotiation best practice that generates measurable economic benefits. Many companies embrace Supplier diversity because they have been challenged by special interest groups to do what is right for the community. Other companies promote Suppliers owned by women and persons of color because it is the “right thing to do.”
Supplier diversity is a sound economic strategy beyond political correctness. First, many companies serve customers that represent a cross-section of an ethnically diverse population. It follows that these customers would want to patronize companies that support businesses owned by persons of similar backgrounds and cultures.
Second, many key Suppliers of goods and services have merged with competitors. Market consolidation eliminates competitors causing prices to rise. Who will be the competition of the future? The answer is small business.
Companies should invest in building the infrastructures of diverse businesses so tomorrow they will be able to compete with the stronger incumbents Suppliers. This will again put pressure on prices to ease.
FOOTNOTES:
1 Dawn-Marie Driscoll, and W. Michael Hoffman, Ethics Matters: How to Implement Value-Driven Management, Center for Business Ethics, Bentley College, Waltham, MA, 2000, p.262.
2 Id. At 262-63. Driscoll and Hoffman cite nine cases where ethical misconduct cost these companies over $1.5 billion in the aggregate. These include Texaco ($176 million); Archer Daniels Midland ($100 million); Louisiana-Pacific Corporation ($37 million); Laboratory Corporation of America ($187 million); Mitsubishi Motor Corporation ($34 million); Caremark ($250 million); LaRoche Holding AG and BASF AG ($725 million); and Royal Caribbean Cruises, Ltd. ($27 million).
3 All major corporate e-mail platforms, including Exchange, Notes/Domino, and GroupWise can easily track these disclosures. An employee clicks on the Ethics Disclosure icon and keys-in (i) the name of their supervisor, (ii) the name of the Supplier that offered the gift or entertainment, (iii) the description of such gift or entertainment, (iv) the business purpose of accepting such gift or attending the event, (v) indicate whether it requires permission or mere disclosure, and (vi) the date of the event. Submission of this disclosure goes to the employee’s supervisor, the CEO, and the chief ethics officer. Data can be tracked and sorted by employee or Supplier.
4 BATNA is an acronym for the best alternative to a negotiated agreement and is the fifth principle in Fisher and Ury’s model. In this classic text, they describe their five principles for effective negotiation that can be used effectively on almost any type of dispute: 1) separate the people from the problem; 2) focus on interests rather than positions; 3) generate a variety of options before settling on an agreement; 4) insist that the agreement be based on objective criteria, and 5) develop agreements that are better than your BATNA. Fisher and William Ury, Getting to Yes: Negotiating Agreement Without Giving In, (New York: Penguin Books, 1983), [p. 11].
5 In (iv), if Buyer’s best alternative is a price that is greater than 10 percent more favorable than Supplier’s offer, Buyer may say, “you are off the mark by double digits.” Supplier now has to guess whether its offer is off by 10 percent or 99 percent. Similarly, if Supplier’s offer is over $100,000 higher than Buyer’s best alternative, Buyer may suggest that Supplier’s offer is “off by six digits.” Again, Buyer is giving a range of possibilities of between the $100,000 actual difference to $999,999.
David Kramer ([email protected]), is the president of Kramer Procurement Solutions, Inc. in Boston, specializing in procurement consulting and negotiation/ethics training and coaching for buyers and suppliers. Mr. Kramer is the CEO of Litigation Metrics, the industry’s only solution that uses multivariate statistics to measure litigation performance on a total cost basis (e.g., legal fees, settlements/judgments, etc.). Mr. Kramer also is a faculty fellow at Babson College in Wellesley, Mass. and a research fellow at the Center for Business Ethics at Bentley College in Waltham, Mass. Mr. Kramer was the former senior vice president and general counsel of The Stop & Shop Supermarket Company based in Quincy, Mass.
