Business Partnership Advisor
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Chris Reich, Business Mediator
Negotiate Your Best Partnership Buyout Using Game Theory
Game Theory is a very useful tool in business negotiations. In this post, I’ll give a broad overview on how Game Theory can help you negotiate your best deal with your business partner.
What Is Game Theory
Modern game theory began with the idea of mixed-strategy equilibria in two-person zero-sum games and its proof by John von Neumann. Von Neumann’s original proof used the Brouwer fixed-point theorem on continuous mappings into compact convex sets, which became a standard method in game theory and mathematical economics. His paper was followed by the 1944 book Theory of Games and Economic Behavior, co-written with Oskar Morgenstern, which considered cooperative games of several players. The second edition of this book provided an axiomatic theory of expected utility, which allowed mathematical statisticians and economists to treat decision-making under uncertainty.
In 1950, the first mathematical discussion of the prisoner’s dilemma appeared, and an experiment was undertaken by notable mathematicians Merrill M. Flood and Melvin Dresher, as part of the RAND Corporation’s investigations into game theory. RAND pursued the studies because of possible applications to global nuclear strategy. Around this same time, John Nash developed a criterion for mutual consistency of players’ strategies known as the Nash equilibrium, applicable to a wider variety of games than the criterion proposed by von Neumann and Morgenstern. Nash proved that every finite n-player, non-zero-sum (not just two-player zero-sum) non-cooperative game has what is now known as a Nash equilibrium in mixed strategies.
Oh Rocks! Tell Me in Plain English!
In essence, Game Theory is a means of predicting behavior of parties involved in a game or negotiation. It’s based on some pretty complex math and is backed by decades of research, but at the core is a pretty simple idea. That idea is that rational people will act in their best interest when negotiating. That’s common sense. However, Game Theory tells us to be very careful to seek out all the motivators that make up a person’s “best interest”.
I recommend that people facing a tough negotiation sit down and list all the things that drive the other person. For example, if you’re negotiating a car purchase, you think the seller is motivated by money. That’s true. But at a dealership, the salesman may need a sale to save his job regardless of the commission on a single sale. The dealership may need a sale to make their numbers for a month. [Hint: You generally can make a better deal during the last few days of any month!] New models might be coming out in a few days which will hurt the value of the cars on the lot. The salesman may be the top seller and needs your sale to maintain her superiority over other sales personnel.
The might be dozens of factors motivating the other side. If you are patient and work hard to learn about those motivating factors, you will gain a great advantage in the negotiations. The more you understand, the better.
People Will Act in Their Own Best Interest
Acting in your own interest doesn’t make you a bad person unless your taking a seat on the bus that could go to the pregnant woman next to you. I’m always a little surprised when clients tell me, “he only wants what’s best for him, what do I get?”
Of course the other side wants what’s best for themself, not you. Anything they give, is to get what they want. If that surprises you, you’ve probably left a lot on the table over the years.
In a negotiation between two companies, one party called me and said, “he really only cares about what he gets. He’s all about nickels and dimes.” What did I say? Great! Let’s find him lots of nickels and dimes while we get the dollars we want!
Consider ALL the Motivators
If the person you’re negotiating against is after every nickel and dime, then find her lots of them. How? A person like that hates to write checks. So, if you’re selling something to a business affiliate of yours, rather than negotiate on price, work on terms. If that business produces something you buy, go for a credit against purchases or make a straight trade deal.
I used to have (sold it) a very successful training business in the San Francisco Bay Area. A well known men’s clothing company wanted training for about 30 people but they didn’t have the money in the budget to cover all they wanted. The total cost was about $25,000 for a two-day training from me. They had $10,000 in their training budget. Rather than start endless negotiations which will only lead to me taking a big discount and possibly them getting a lesser product, I said we could work it out for $30,000. Pay me $10,000 and give me a $20,000 credit at any of your stores. They loved it! I needed the suits, shoes, shirts, and ties! Playing it smart got me what I wanted, got them what they wanted and we both considered it a win.
People can be motivated by things other than money. Before putting an offer on the table, don’t just think about what you want, think about what drives the other side. Ego? Tell them how they will have total control after you are gone.
You can’t know all the motivators perfectly, but you can greatly improve your position by taking a little extra time to understand your opposition.
Another Big Deal
In another case, a client came to me with a problem. He needed to buy a very expensive machine to improve his unit’s productivity. Upper management said no to the $250,000 purchase. He tried every year for three years when budget talks came up. After much discussion, we determined that management was afraid of making a big investment that might end up a dud as had happened with other big purchases in other departments. I proposed that he cover the risk. He proposed that if the new machine did not improve his profits by enough to fully cover the cost over 5 years, he would cut his payroll to match the cost. Whoa! That’s a big commitment. True, but this guy knew his business. Management let him have the new machine and it paid for itself in a year. After 3 years of trying, he finally got what he wanted by understanding the thinking of upper management. It wasn’t the amount that scared them, it was the risk. Covering the risk, closed the deal.
“Game Theory will help you understand the other party’s desires while helping you focus on your own.”
Business Mediator, Chris Reich
Focus on What YOU Want from the Negotiation
It’s very important to be clear about what you want from negotiations. Again, sounds obvious but might not be. When I work on negotiations for a partnership buyout, it’s always the zillions of little things that derail the talks. Why? Nobody was prepared to address those little items. I once had a $2 million dollar deal hang up because the exiting partner insisted on keeping his cell phone. Crazy. It set off a major argument. “We’ve given too much already! No more!” and “Why is this a big deal? I’m only asking to keep a 3-year-old phone with a cracked screen.”
What do you think was the problem with just giving up the phone? Right. After weeks of wrangling to agree on $2 million cash, the phone thing was an insult. It became a major issue of psychology. Whoever got the phone would be the winner.
Stay Focused on What You Want
This one is very important. I often see people make vindictive demands near the end of negotiations. “I want him to admit that he was wrong!” Sure, we can get that for you. How much are you willing to pay for the admission? In contentious negotiations, everything comes with a price tag. Remember the cell phone thing I mentioned earlier? That last-minute demand nearly broke the entire deal.
When negotiating, you must decide if you want to get what you are after or prove a point. Rarely can you have both. It’s smarter to get what you want. And, it making your point matters that much, decide in advance what that is worth because those kinds of demands always cost something.
“You need to understand two things when negotiating. First, be clear about what you want. Second, understand what the other side wants and what motivates them.”
Chris Reich, Business Mediator
Buyouts between partners are usually mired in things that people think are legal entitlements. Let’s look at the most common misconceptions around buyouts.