Tag Archives: Commercial Strategies

Collaboration and Reputation

Just One Goat

‘Just One Goat’ – J. Davies (2020)

 

Collaboration and Reputation

“Regard your good name as the richest jewel you can possibly be possessed of, for credit is like fire; when once you have kindled it you may easily preserve it, but if you once extinguish it, you will find it an arduous task to rekindle it again.”  – Socrates (470 – 399 BC)

 Why Is Reputation Important?

Effective collaborative relationships are underpinned by trust, and by extension reputation. The reputation of an organisation is a strategic asset and a significant source of corporate value as observed by Eccles et al:

“…in an economy where 70% to 80% of market value comes from hard-to-assess intangible assets such as brand equity, intellectual capital, and goodwill, organizations are especially vulnerable to anything that damages their reputations.[1]

There are significant examples of organisations who have destroyed corporate value because they did not adequately protect their reputation. These examples include poor risk management practices such as BP with the Deepwater Horizon Disaster,  fraudulent conduct such as Volkswagen’s emissions cheating practices,  and highly imprudent statements about product quality such as the Chairman of a large jewellery retail chain publicly stating that the company’s products are “complete crap”.[2]

Failure to operate your company is a ‘sound and business-like manner’ and with ‘reasonable skill and care’ is not only unlawful in most jurisdictions[3] but also a sure-fire way to erode value and destroy trust.  Doing what you say you are going to do, behaving ethically, and treating your customers with respect are all simple strategies to build up and maintain positive relationships. We also need to consider reputation more broadly between buyers and suppliers, especially with strategic suppliers and customers. 

The current global pandemic is generating extreme volatility and uncertainty in business relationships.  The temptation to retreat into silos with a ‘dog eat dog’ approach may yield very short-term benefits; however, smart companies will play the long game and focus on how the business will operate after the crisis is ended. In other words, these companies will look to preserve or even enhance their reputations

Strategies for Preserving Your Reputation in a Crisis

In a crisis, an organisation may be legally frustrated from delivering what they promised. This can apply to organisations involved from both the buy side and sell side. A black letter law approach would push businesses towards efficient breach of the contract or litigation to resolve the issue (often through legal technicalities) but as we know, such approaches destroy trust and annihilate opportunities for parties to work effectively with each other in the future. Organisations therefore need to explore options for win-win outcomes through the following:

Transparency. Be honest and do not surprise your suppliers or customers.  Early and frank disclosure will more likely preserve trust and allow for joint, mutually agreed solutions.

Demonstrate Leadership. Be a role-model to your teams, customers, and suppliers. Be proactive, be courageous, and do not let issues fester. Problems rarely go away by themselves.

Maintain Flexibility. Two millennia ago, the Roman statesman, Publilius Syrus stated that, ‘it is a poor plan that admits to no modification’. This tenet is especially relevant now. Organisations need to accept that existing Business Cases, Corporate Plans, Profit Forecasts, and Programme Charters are likely to be superseded by events. Stubborn organisations that do not adapt their strategies and plans will likely fail. Successful organisations, that work collaboratively with buyers and suppliers to promote flexibility and agility,  will more likely succeed.

Negotiate to Create Value. Negotiation does not have to be a zero sum game. Adopt a positive approach to negotiation that explores opportunities for both parties and the creation of value.

Fix the Problem and not the Blame. When the proverbial hits the fan, there is an overwhelming temptation to start pointing fingers. We need to resist this temptation and focus our energy on fixing the problem.

Adopting the above strategies will not guarantee preservation of goodwill but will be far more likely to avoid losing a cherished reputation. Organisations may also seek a crisis to enhance their reputation and prove that they can work collaboratively in both good and bad times.

Summary

When a crisis strikes, we naturally focus on short term survival. This is absolutely necessary where cash flow and solvency is at risk and other extreme risks or issues place business viability in jeopardy. Like Maslow’s hierarchy of needs,[4] we should not ignore these critical factors but at the same time we also need to be future focused and explore how the organisation will look and work at the end of the crisis.  Short-term survival does not have to be at the expense of long-term relationship building. Organisations now have a unique opportunity to demonstrate their affinity to collaboration in good times and bad.  Playing the long-game, from a collaboration perspective, should be a strategic priority.

[1] Robert G. Eccles , Scott C. Newquist and Roland Schatz “Reputation and Its Risks” Harvard Business Review February 2007.

[2] Gerald Ratner, After Dinner Speech to UK Institute of Directors (Apr 1991).

[3] Companies Act 2006 (UK) s174; Delaware General Corporation Law Delaware s145; Canada Business Corporations Act (1975) s122; Corporations Act 2001 (Cth) s180.

[4] Maslow, A. H. (1943). A theory of human motivation. Psychological review,50(4), 370.

Why We Need the Right Commercial Model to Drive Collaboration

To realise the full benefits of collaborative contracts, we need the right commercial model.  If we rely on transactional ‘boilerplate’ contract terms and conditions, then we are unlikely to achieve the full range of collaborative benefits that we have discussed in earlier blogs.  It is not just the contractual terms that we need to explore but also the market engagement strategy as well.  That is, how do buyers and suppliers interact before contract signature.  This blog subsequently explores strategies for aligning commercial models to best realise collaborative outcomes.

Do We Need a Contract At All?

Businessmen often prefer to rely on “a man’s word” in a brief letter or handshake or “common honesty and decency” – Stewart Macaulay (1963).[1]

In Stewart Macaulay’s seminal paper on non-contractual relationships, he asks the question, “why do businesses use contracts in light of its success without it”.[2] The hypothesis offered by MacCaulay is that contracts and contract law are irrelevant since there are many non-contractual sanctions available to buyers and suppliers to achieve the required business outcomes.  Why then do we need contracts to pursue collaborative contracts where the relationship should be underpinned by trust, a shared vision, and a desire for long term relationships? 

Relying on trust and good-will alone is likely to lead to failure. Contracts are tools to communicate and manage the obligations of parties in concert with the desired collaborative behaviours. We also need contracts to provide a level of certainty to establish insurance requirements, seek financial approvals, and meet statutory obligations (both within the public and private sector).  To pursue a collaborative venture without a contract is a very dangerous proposition and could result in the parties to the relationship accepting significant liabilities, especially with the imposition of the law of equity and quasi-contract obligations.

Commercial Frameworks Designed to Drive Collaboration

Max Abrahamson’s principles can be summarised by the often-used commercial tenet of ‘transfer the risk to the part best able to manage the risk’.[3] For many organisations though, this principle is often ignored.  The temptation to transfer significant risks to suppliers is very alluring, especially where buyers command significant market power.  Such strategies will often erode value for the following reasons:

  1. Suppliers will load their contract prices with substantial contingencies or management reserve to deal with risks. These costs are often passed onto the buyer whether the risk eventuates or not,
  2. Unreasonable risk allocation may result in fewer bids and lessened competition,
  3. Where inappropriate risks are transferred to suppliers, there may be a perverse incentive for suppliers to compromise on quality or behave opportunistically (e.g. bid low and make profit on variations), and
  4. In complex projects, buyers may not have ‘clean hands’ and may not be able to effectively seek remedies under the contract where risks materialise.

To illustrate the significant problems with inappropriate risk allocation, a research report by the Construction Industry Institute identified that:

Inappropriate allocation of risk resulted in a 14 percent increase in costs to projects. Of this amount, the customer was liable for 78 percent of the cost increase.[4] 

The other key problem we face with risk transfer in contracts is that the contract may only effectively deal with known risks. That is, uncertainty[5] may not be adequately addressed. If we want to pursue collaborative outcomes, then we naturally need to adopt a more collaborative approach towards risk management.

Commercial Strategies That Encourage Collaboration

We know that transactional boilerplate contracts that aim to shift the maximum amount of risk to suppliers will thwart collaboration, but what strategies can we adopt to maximise collaborative outcomes? Whilst not exhaustive, the following themes emerge in successful collaborative ventures.

Early industry engagement. Early and holistic identification of risks and opportunities will foster collaboration and ensure subsequent risk allocation and sharing strategies are fair and equitable.

Prudent and Equitable Risk allocation. To encourage collaboration, we should not place too much risk on suppliers.  Where substantial contract value is at risk then suppliers will be more likely to be risk averse and will not effectively pursue innovation and ‘best for project’ outcomes. Consistent with a shared vision, all parties should have reasonable ‘skin in the game’.

Joint Management and Ownership.  Joint management and ownership does not mean that the parties should embark upon an incorporated joint venture or alliance agreement. Joint management means that the parties work collaboratively on a ‘best for program basis’ to deliver joint outcomes. This may involve joint decision making for key areas, joint risk management, co-location of key team members, and shared systems (which ensure there is a single source of truth).

Transparency. Collaboration is far more likely when parties have full visibility of risk, issues, and opportunities throughout the contract lifecycle. Open book financial reporting, and shared risk logs all support the development and maintenance of trust.  Transparency also supports the collaborative contracting aim of no surprises.

Effective Disputes and Issues management. A commercial framework is needed that ensures disputes and issues are resolved at; the lowest level, quickly, and equitably. 

If we want to sabotage our efforts to drive collaborative outcomes and erode value then I would recommend the following commercial strategy:

  • Do not engage with industry at any stage. Ignore industry’s wealth of knowledge and their understanding of the risks in their core business.
  • Insist upon ‘unlimited liability’ for all risks and place as much of the contract value at risk as possible.
  • Insist upon unilateral, unfettered rights such as; ownership of all supplier background Intellectual Property, step-in /subrogation rights for minor breaches, and an on-demand performance guarantees.
  • In the tendering stage, apply onerous conditions of tender on suppliers (with sanctions for breach) but at the same time claim that the customer is not bound by this same ‘tender process’.
  • Make sure the tender evaluation criteria places a very high weighting on price and ensure that the contract duration is for as short a term as possible.
  • Ensure all issues and disputes are resolved through litigation.

Summary

If we wish to pursue effective collaboration and reap the known benefits of collaborative contracts, then we must select an appropriate commercial model.  Having the right culture, motivation, leadership and commitment to collaboration alone is insufficient. Trying to apply a collaborative framework with a transactional, arms-length commercial model is akin to putting ‘lipstick on a pig’.


[1] Stewart Macaulay, “Non-Contractual Relations in Business: A Preliminary Study American Sociological Review” 1 February 1963, Vol.28(1), p55.

[2] Ibid., p 62.

[3] Max Abrahamson, “Risk Management” (1984) 1 (3) International Construction Law Review 241, 244. 

[4] CCI Research Report RR210-11 “Contracting to Appropriately Allocate Risk” (2007) summarised in Altman R., Cruz J., Halls, P “One-sided Contracts: Do They Pay Off?” ACCL Vol 11 1 (2017) p 169.

[5] This includes both ontological uncertainty (the unknown unknowns) and epistemic uncertainty (risks are known but likelihood and consequence cannot be quantified).