Experienced dealmakers will spot a flaw in the design of this experiment. First of all it is a one-off with no future. Second, it is blind with no history. I designed a variation of this experiment for my undergrad negotiating class at NYU’s Shanghai campus. I call it the Factory Game. The two actors are Brand (from the US) and Manufacturer (China). Brand (B) approaches Manufacturer (M) with a unique product and contracts for a specific factory run – with price, quality and IP protection all stipulated in the agreement.

If all goes well (i.e.: cooperation, Win-Win) B receives quality merchandise at a fair price. M receives a fair payment, technological know-how and future orders. But either side may ‘cheat’ (i.e.: competitive Win-Lose behavior). B can cheat by failing to pay in full or by going to another factory with future orders. M cheats by failing to deliver, poor quality production or theft of IP.

To make it more realistic, I set up the game as 3 iterations (or ‘contracts’) of 3 trials each (to simulate repeat business).

In Iteration A the value of the contract was level each time – say 1,000. This was the baseline case, and represented a deal with an unknown partner.

In Iteration B the contract value rose each time – 1,000, 2,000, 4,000. This case represented a growing market or a ‘key-partner’ relationship.

Iteration C had a falling value – 1,000, 500, 250. It was intended to model a saturated market – or a declining relationship.

Payouts were set as a % of the contract value.

W-W yielded a 50 : 50 payout.
W-L => +75 : -25
L-W => -25 : +75
L-L => -10: -10

My pre-experiment assumptions: Actors would quickly see that it was in their best interests to stay ‘honest’ and cooperative as expected outcomes rose, but resort to cheating Win-Lose behavior as returns fell – or when a ‘contract’ was about to expire.

What really happened? — The participants fell victim to their own emotions and ego positions instead of coldly calculating their firm’s interests. Many participants based their decisions not on FUTURE payout possibility, but rather on PAST counter-party behavior. If A cheated last time, then B was gong to cheat this time – regardless of outcome.

One set of teams had the following outcome:
Trial one: Win-Lose when the payout was stable – as one actor attempted to score a short-term win.
Trial two: Lose-Lose – as distrust from trial one completely negated the possibility of maximum gains.
Trial three: Win-Win. Both sides realized that their barn-burning was counter-productive and anti-competitive (vis a vis other student groups!). Unfortunately, the Win-Win behavior only came into play AFTER the market had peaked and the best returns were behind them.

At first it sounds like they were just inexperienced and emotional – after all, the participants are undergrads with limited business history. But we see the same behavior all the time from so-called professional negotiators. What lessons can US negotiators in China draw from this exercise?

1 – Set the stage for trust, or you will poison the potential relationship from the start.
Test orders are an American concept while systematically building relationships is Chinese. Americans assume that the relationship will grow from successful transactions. Chinese assume that successful transactions will grow from relationships. The result is that Americans tend to under-promise (“we’ll have to see how well you do on the first order before we discuss raising the volume”) while the Chinese over-promise (“oh yeah, we can definitely do what you want at the right price and quality level” – even if they don’t know what they are doing – yet). Both behaviors tend to undermine trust in the early stages of a US-China business relationship.

2 – Penalties and missed bonuses are often interpreted by Chinese actors as ‘cheating’ behavior – and a betrayal of trust.
Americans often employ the ‘carrot and stick’ technique of using potential bonus payments and penalties to enforce positive behavior. Unfortunately, Chinese counter-parties often view this as dishonest and manipulative. It is human nature to count the bonus and ignore the penalty during the pre-execution phase of the deal. Once trust is lost, it is very difficult to restore. A missed bonus – regardless of how justified the American side feels it to be – often triggers negative behavior from the Chinese side.

3 – Guanxi-building activities like dinners, tours and meetings are the Chinese method of vetting partners.
You should be doing the same. Use your banquet time to talk about how you and your counter-party define success. What are your goals? How can you work together? American negotiators are often shocked at how much time the Chinese waste on relationship building. Chinese negotiators are equally shocked at how much opportunity the Americans waste by not building proper relationships.

4 – Overly picky contract terms tend to be counterproductive.
Your corporate lawyer thinks you can write-out the risk of overseas deals, but in China this can be counter-productive. Detailed contracts with penalties and financial stipulations can make the Chinese side feel that you are not a suitable long term partner. Contract terms that seem normal in the US can trigger the “cheat” switch in China — since they think you are already pulling fancy tricks.

5 – Relationships are not organic in China.
Americans tend to feel that close relationships are the product of positive experience and time. Chinese negotiators are a bit more transactional, and expect partners to ‘work at the relationship’ in the early stages. Don’t blow an opportunity by paying lip-service to your Chinese counter-party. When they say, “we want to have a good relationship” it isn’t necessarily a pro-form business platitude. Use the opportunity to define slippery terms like ‘trust’, ‘success’ and ‘long-term’. Assumptions can be lethal in a cross-cultural negotiation.

—————————————
—————————————

Stay Connected to ChinaSolved / ChineseNegotiation.com:

Follow on twitter: @chinasolved TWITTER blocked in China

ChineseNegotiation.com and ChinaSolved.com invite you to participate the ChinaSolved linkedin group.
ChinaSolved / ChineseNegotiation.com mailing list

“What the hell is this? That isn’t what I ordered.”
Herb Feldstein, Feldstein Fixtures and Lighting. Paramus NJ

I ran a pair of surveys on Linkedin recently. One survey appeared on a set of Linkedin business groups with NO specific geographic orientation and asked, “What is the most difficult aspect of doing business?” I broke down the deal process into 5 phases –

1) Finding appropriate counter-parties
2) Clarifying deal terms
3) Finalizing the deal – signing the contract
4) Executing the agreement / doing the actual business
5) Post-deal compliance, Quality Control

I ran another survey with the same answer choices, but which phrased the question slightly differently – and targeted China-oriented business groups. This time the question was: “What is the most difficult aspect of doing business IN CHINA?”

The results were as follows:

Linked.com Surveys

Outside of China, a little over 50% of the respondents said that the biggest challenges occurred pre-deal, with only 23% reporting that their main difficulties occurred once the contract was finalized. In China, however, almost half of respondents said that their problems started AFTER they thought an agreement was reached.

One can draw two conclusions from this data:

1. Chinese businessmen deceive, cheat, mislead, or otherwise fail to honor their word.

2. Westerners in China are choosing inappropriate counter-parties, aren’t doing proper due diligence or are cutting WAY too many corners early in the negotiating process.

Which conclusion is valid? Let’s take a look:

Is choice 1 correct?
Considered politically incorrect and borderline racist in the west, answer 1 is not without validity. But rather than accuse your dear author of racism for vilifying the entire Chinese Nation with charges of dishonesty, better you re-examine your own puritanical notions about the universality of honesty as a virtue. You may be the one guilty of a subtle yet pervasive form of racism – one that is far more damaging and dangerous to you than to your Chinese counter-party. You may come from a society that holds Judeo-Christian notions of an objective, immutable Truth and considers honesty to be a simple matter of black and white, good and evil – but not everyone in the world necessarily shares your opinion. Chinese history is peopled with strong, moral and SUCCESSFUL leaders who instructed their students about the virtue and efficacy of deception. Sun Tze, in the classic “Art of War” is the most famous Chinese leader to advice followers on the most effective ways to employ deception. Years later, Mao Ze Tong’s “On Guerilla Warfare” described how deception and surprise could neutralize an enemy possessing superior technology and firepower. Even Deng Xiaoping’s “White Cat, Black Cat” lecture effectively argues that managers need to adapt a fluid, pragmatic approach to be successful.

Win-Win negotiation is hardly standard operating procedure in the US (remember “never give a sucker an even break”?) and it certainly never really caught on in China. Astute Chinese dealmakers would be ashamed at leaving money on the table or failing to maximize their benefit in a transaction. If the Western counter party is satisfied with the outcome of a deal then the Chinese side has clearly not worked hard enough. Let the Westerners wave signed contracts around all day long – there are always new opportunities and new counter-parties coming down the road.

Or is Choice 2 the true explanation?
Westerners just aren’t doing enough due diligence and are rushing into deals with the wrong counter-parties and a poorly considered deal structure. Actually, I think that this may be the problem much of the time. International lawyers are constantly warning Western clients that suing in Chinese courts is an expensive, time-consuming and ultimately unsatisfying endeavor (www.ChinaLawBlog.com – assorted) – yet novice deal-makers still seem to think that an aggressive legal strategy will remedy any unfavorable deal outcome.

There are several major factors leading Westerners to accept less stringent deal structures (or unreliable counter-parties) in China than they would back home.

A) It’s so hard to get to the negotiating stage with ANY Chinese counter-party that no one wants to let go of the first guy who seems to fit the bill for fear of never finding another one. China is indeed a difficult environment to do your first few deals – and between jet-lag, culture gap and language problems, senior Western managers have been known to suffer from some pretty serious lapses in judgment. Tired, confused and frustrated, otherwise savvy Westerners tend to hear what they want to hear – and believe promises that they would ordinarily suspect.

B) The politically correct types are so afraid of making the Chinese side “lose face” or are so anxious to “build guanxi” that they don’t drive a hard enough bargain — or don’t ask for the right things. Are you in town to buy & sell – or are you here to make friends and build your network? It’s very hard to maximize your profits and ‘build guanxi’ at the same time. Many Americans have left money on the bargaining table – or worse, signed deals that don’t provide adequate safeguards or quality controls – in the name of ‘building a long term relationship’. Well – once that American has to explain to his boss or board of directors why he’s just squandered the firm’s money he tends to be less excited about his new relationship in China.

C) Not knowing how to structure a proper China deal. When money changes hands the power balance shifts. That’s when smiles disappear — and phone calls don’t get returned. If your China deal involves up-front payments or transfers of assets and IP, then you are putting yourself in a very dangerous situation. Pay attention to the way you have structured your deal so that your Chinese counter-party doesn’t have to choose between common sense and honesty. Trust is wonderful. Verification is better.

Experienced deal-makers – Chinese and Westerner alike – know to budget time and bandwidth to post-deal negotiation in China. No matter how much time you spend hammering out the deal terms and contracts, you should still expect to conduct your second REAL negotiation after you thought the deal was already done.

Click here to see the original Linkedin poll

—————————————
—————————————

Stay Connected to ChinaSolved / ChineseNegotiation.com:

Follow on twitter: @chinasolved TWITTER blocked in China

ChineseNegotiation.com and ChinaSolved.com invite you to participate the ChinaSolved linkedin group.
ChinaSolved / ChineseNegotiation.com mailing list