What is Contract Negotiation?

Contract negotiation is the process of coming into mutual agreement upon the terms and conditions of the contract by two parties into the contract. It is very important to mutually agree on the provisions of the contract to build trust on other party so that each party may fulfil their obligations under the contract in a cordial environment. Negotiation is a necessary step in contract formation and execution to avoid any disputes later on. Contract negotiation is important form the legal requirement also because as per law the prerequisite for a valid contract is that there is free consent of parties entering into the contract. The contract negotiation provides a platform for both the parties to make the provisions of the contract mutually agreeable.

Why Contract Negotiation is Important?

Contract negotiation is important because it ensures that the contract will be mutually beneficial to all the parties entering into the contract. As the contract is reviewed by all the parties at the time of negotiation, it also ensures that there will be no conflict in future and relationship between the parties will be cordial.

Contract negotiation process allows all the parties to set their terms and conditions in a balanced way and ensures that one party do not have more bargaining power as compared to other parties.

This process is one of the most important part of contract lifecycle since it provides all the parties the opportunity to fix their priorities and facilitates in a contract formation with balanced terms and conditions. This step also provides a pause in the contract formation process where all the parties may review the provisions of the contract and decide whether to go ahead with contract signing or not!

Skills Needed for Contract Negotiation

Excellent Communication Skills

The contract negotiation team members should possess excellent communication skills. They should be able to read and write contracts, using simple, easy to understand language. The team should be able to decipher meaning of sentences so that there is no confusion later on. The negotiators should also have ability to communicate their points, views and issues, clearly and effectively to other party.

Sound Legal Knowledge

The contracts are usually drafted by lawyers, therefore sound legal knowledge regarding contracts is necessary to understand and interpret contracts easily.

A Non- Adversarial Approach

The contract negotiation is about collaboration with other parties and building cordial relationships so that the contract execution is taken place smoothly. The parties should not be engaged in positional tactics and should not impose their terms and conditions on the other party.

Decision Making Ability

Leaders of contract negotiation team should have decision making abilities. It is necessary to take quick decisions in the interest of organization during negotiations.

Good Knowledge of Procurement and Contracts

The teams engaged in contract negotiation should have good knowledge of procurement and contracts. They should be well aware of which contract provisions are negotiable and how to offer concessions that are still be in favor of their businesses.

Ethics and Reliability

Ethics and reliability in negotiators promote an environment of trust during negotiation. Each party should trust other parties and the persons involved in negotiation should fulfill their promises after negotiation completes.

Ability to Analyze Problems to Identify Interests of Each Party

The negotiators should be able to analyze problems to determine the interest of each party. A detailed problem analysis identifies the issues

Active Listening Skills

This is one of the important skills, the negotiators should possess. It involves understanding verbal communication as well as ability to read body language. Patiently listening to other parties help the negotiators to find areas for compromise during the negotiation. 

Control Emotions

During the negotiations, conflicts and contentious issues may cause frustration. It is important for negotiators to keep their emotions in control so that their frustration and intentions may not be reveled through their body language. The negotiators should have ability to keep calm and cool during negotiations to avoid any conflicts and to build a cordial atmosphere.

Five Stages of Contract Negotiation

There are five stages of negotiation which are mentioned below. The negotiating team should consider each stage seriously to end up with a successful negotiation.

1. Establishing Negotiation Objective
2. Collection of Data and Facts
3. Planning
4. Position Analysis
5. Engage in Negotiation

Let us discuss each stage in detail:

Establishing Negotiation Objective

Setting up a negotiation objective gives a direction to negotiating team to proceed. Collection of data, making offer, etc. depends on the objective of negotiation. There may be one or more objectives of negotiation as mentioned below:

1. Getting fair and reasonable price.
2. Timely performance
3. Getting the minimum essential requirements
4. Achieving a mutually beneficial agreement

Collection of Data and Facts

The negotiation team should have enough relevant date and facts available with them before the engage in actual negotiation. The data and facts about the supplier, market and financial conditions are crucial for contract negotiation.

Analysis of market to understand the market forces and the risks associated with new suppliers is most important part of this stage. Porter’s five forces analysis is an important tool to analyze and understand the five market forces i.e. (1) power of suppliers, (2) power of buyers, (3) barrier to new entrants, (4) substitutes and (5) market rivalry.

In addition to analysis of market forces, other factors like market size and growth, technological trends, industry profitability and regulatory changes are also important from negotiation point of view. Pricing trends are also of particular interest for negotiation team. Pricing information is important because it helps to set the reference point during the negotiation. Much of the pricing information may be obtained from price index.

The negotiators should also be aware of cultural factors pertaining to other parties taking part in the negotiation. Greet ‘Hofstede’s cultural dimensions’ helps in a great way to understand culture of different countries before engaging in the negotiation with the parties belonging to other countries. These dimensions are (1) power distance, (2) individualism vs collectivism, (3) masculinity vs femininity, (4) uncertainty avoidance, (5) long- term vs short- term orientation and (6) indulgence vs restraint.  

Planning

Planning before being engaged in negotiation is very critical for achieving desired results. The following points are considered under this step:

Analysis of Other Party’s proposal

Detailed analysis of other party’s proposal is the first step of planning. The negotiation team should evaluate the price, specifications, delivery schedule and other conditions thoroughly to have in- depth knowledge of the proposal. Other party’s proposal is the beginning point of negotiation, therefore detailed analysis of it is critical.

Decision on Place of Negotiation

Normally, conducting negotiations at your place is favorable for you because your negotiation team will be more comfortable and they will have all the relevant data and back office support in this case. However, negotiating at other party’s place may give you the power of walk away. In any case, the security at the negotiation site is very important. The team should be aware of any hidden cameras, microphones, etc. at other party’s place since these unethical practices may be adopted by other party in some cases. The negotiation team should be careful about their discussions, when negotiation is being held at a public place to make the confidential matter secure.

Team Selection

Team selection is a very important part of planning. The team members should possess all the skills required as discussed above. The should also have sound knowledge of issues related to negotiation. The members of team should be selected from all the departments involved, like, engineering, finance, quality control, etc.

Gathering Relevant Information

The relevant information about the market and product, such as, negotiation objectives, cost data, financial reports, records of previous negotiations, market information, price history, details of the products and services, etc. should be gathered and studied by the negotiation team before negotiation.

Negotiation Strategy

The negotiation team should decide upon the tactics and strategies to be adopted during the negotiation. There are several negotiation strategies which may be used during the negotiation some of which are discussed below in detail.

Position Analysis

A detailed analysis of other party’s position helps the negotiation team to understand other party’s strengths and weaknesses. The ‘best alternative to a negotiated agreement (BATNA)’ of other party also has a great impact on negotiation dynamics. The following points should be considered in the analysis:

Other Party’s Willingness to Sign the Contract

Other party’s desire to do the business with your organization is an important factor to evaluate before the negotiations. It is to be ascertained whether market conditions are in other party’s favor, or if other party is in and industry with limited competition, or if they have some patented feature, due to which other party may not be willing to consent to certain requirements. The reverse of this may also be true. If the market conditions are not in other party’s favor, or the market is very competitive, then other party may give consent to certain requirements which are in your favor.

Other Party’s Financial Condition

The negotiation team should be able to read and analyze, other party’s financial statements to assess its financial condition. If the other party is financially strong, it may not be agreed to the terms and conditions favorable to your organization but they may be more reliable to fulfill their promises due to their strong financial position. If the other party has weak financial position, then even if they may be willing to agree on the conditions favorable to your organization, they may not have financial ability to deliver the things as promised. Therefore, assessment of other party’s financial position and risks associated with it should be closely monitored by the negotiating team.

Strengths of Other Party

Assessment of negotiation power of other party in necessary before negotiation. Other party may derive negotiation power from several sources, i.e., the other party may have monopoly in the market, or it may own a patent, the products and services of other party may be of high quality, the other party may have excellent customer care support system, or it may have a strong distribution network.

Skills and Authority Level of Negotiating Team

The negotiator should also have a fair assessment of their team and organization before they move ahead with the negotiation. The members of the negotiation team should have skills required (as mentioned above) for the negotiation.

Amount of Time for Negotiation

The availability of time for the negotiation also effect its outcome. Deadlines set for decisions put pressure on all the parties engaged in the negotiation. Therefore, it is always good to set a deadline for the other party to achieve results quickly and in favor of your organization.

Price Analysis

If the negotiation team has done thorough price analysis, then the can bargain with other party for the reasonable price. The negotiation team should collect information about manufacturing costs, labor costs, indirect costs, transportation costs and other costs.

Availability of other options (BATNA)

It the negotiation team have their ‘best alternative to a negotiated agreement (BATNA)’, then it may provide additional strength to them. Alternative options like sourcing from other organizations, in- house manufacturing facilities, etc. should be explored by the negotiation team.

Engage in Negotiation

The negotiation team should have sufficient facts, information and data during the negotiation. The facts, information and relevant data should be well documented. They must also be aware of various negotiation strategies and tactics. Some of the techniques and strategies used in negotiation are discussed below in detail.

Contract Negotiation Techniques & Strategies

Reveal no Position

In this tactic, the negotiators do not reveal their position but attempt to know the position of other party by probing other party’s proposal in detail. This strategy is best when other party’s proposal is long and complicated, the negotiator lacks information or when the other party is willing to reach agreement.

Reveal Optimistic Position

In this approach, each issue is discussed and a range for negotiation is established.

Putting up Your Proposal Upfront

The negotiators try to put their proposal upfront to save time in this tactic. This strategy can backfire if the other party refuses the proposal. In that case the negotiator then may have to settle for something closer to the pessimistic position.

Work Toward a win- win Situation

Win- win strategy is the best strategy for negotiation in which each party leave the table with a feeling of winner. Placing yourself at other party’s position helps each negotiator to zero in at a solution which addresses each party’s needs.

Set an Expiration Date for Your Offer

If your proposal is reasonable then setting a deadline for other party to make a final decision put a pressure on other party to be serious. It is a kind of ‘take it or leave it’ strategy. It is one of the most effective negotiation strategy which is widely used by experienced negotiators.

Communicate with Body Language

Strategic use of body language is very effective in negotiation. If you are offered a lowball price or if you don’t like the proposal of other party, showing negative body language will cause other party to reconsider the proposal.

Hardball Tactics

There are some hardball tactics that a negotiator must be aware of. It is not necessary that you use these hardball strategies, but you must be able to recognize them it the other party is using these tactics. Using these tactics is not always good because a long term relationship is built on trust and also the other party sooner or later will recognize these tactics.

Best and Final Offer

It is the ‘take it or leave it’ offer given by the negotiators. This tactic imposes pressure on other party to seriously consider your proposal. This strategy is used to achieve result quickly.

False Offer

In this tactic the negotiating party proposes an extremely attractive offer that is impossible to implement. This type of false offer is made to attract other party and to get its attention.

Low Ball- High Ball

In this strategy, the negotiating team makes either extremely high or extremely low offer to whether the other party is informed about actual value of the proposal. This tactic is generally used when the other party is uninformed or it do not have other option. The risk in employing this tactic is that the other party may take it as a waste of time and stop negotiating.

Good guy- Bad Guy

In this tactic, one person of the negotiating team acts as a ‘bad guy’ while the another person plays as a ‘good guy’. The other party when harassed by the bad guy may open up to good guy.

Information Planting

A piece of information is put before the other party intentionally to affect the other party’s approach.

Red herring

In this tactic, a small issue is blown into a major issue, to keep the other party from addressing the real major issue.

Key Takeaway

(1) Contract negotiation is the process of coming into mutual agreement upon the terms and conditions of the contract by two parties into the contract.

(2) Negotiation is a necessary step in contract formation and execution to avoid any disputes later on.

(3) Excellent communication skills, knowledge of procurement, contract management and legal aspects, strong decision making ability, controlling emotions and ethics & reliability are some of the necessary skills needed for negotiation.

(4) The five stages of contract negotiation are (1) Establishing Negotiation Objective, (2) Collection of Data and Facts, (3) Planning, (4) Position Analysis and (5) Engage in Negotiation.

(5) Setting up a negotiation objective gives a direction to negotiating team to proceed.

(6) Planning before negotiation involves analysis of other party’s proposal, decision on place of negotiation, selection of negotiation team, gathering relevant information and deciding negotiation strategy.

(7) The points to be considered in position analysis are other party’s willingness to sign the contract, analysis of other party’s financial position and strengths, skills and authority level of negotiation team, time available for negotiation, price analysis and availability of other options (BATNA).

(8) Common negotiation strategies to be employed for negotiation are reveal no position, revel optimistic position, putting up your proposal upfront, work towards a win- win situation, setting an expiration time for your proposal and communicating with body language.

(9) Some of the hardball techniques used for negotiation are best and final offer, false offer, low ball- high ball, good guy- bad guy, information planting and red herring.

(10) Using hardball tactics is not always good because a long term relationship is built on trust and also the other party sooner or later will recognize these tactics.