Making terms mutual

Every once in a while you may run into a negotiator on the supplier’s side that wants to mirror the terms in the agreement. This means that for requirements that you had for the supplier to meet, the supplier wants to make the commitment mutual so the buyer is providing the same commitment back to the supplier.

When I encounter this I usually rely upon two things to eliminate those requests.

First, I highlight the obligations of the parties under the contract. The buyer’s primary obligation under most agreements is to make payment for the goods or services they purchase. The supplier does not have the same obligations. For example the buyer may ask for a number of warranties and representations regarding the product or service that the supplier will be providing. What warranties does the buyer need to provide when their primary obligation is to make payment? Many of the terms don’t apply equally to both parties simply because the obligations of the parties aren’t equal and the risks aren’t equal.

Second, I highlight the difference in the legal relationship between the buyer and supplier. One of the reasons there is a difference is the legal concept of agency. Under agency the principal may be liable for the acts of the agent. The agent wouldn’t be liable for the acts of the principal. In the buyer / supplier relationship the buyer is the principal and the supplier would be considered the agent. This means that while a buyer can potentially be liable for the actions of a supplier under the concept of agency, a supplier cannot be liable for the actions of the buyer except in those cases where the buyer specifically directs what the supplier must provide (such as making something to buyer’s designs) or how they must implement their design. The latter situation is usually already addressed in most contracts where the supplier will not be responsible for providing indemnity for buyer provided instructions or designs.

Since the obligations, risks and legal relationship aren’t the same, why should the commitments be the same? If you are not successful with both of these arguments you need to consider whether mutuality of terms makes sense.

If a term makes no differentiation between the buyer and the supplier, they apply equally to both. For those terms no statement of mutuality is required. For example Definitions, Contract Term, Effective Date, Survival and a number of other terms apply equally to both parties. If a term describes something that is the sole responsibility of the buyer such as payment, there is no need to make the term be mutual unless other terms of the agreement could require that the supplier make payment to the buyer.

There will be terms in an agreement that are already written in a manner where they apply mutually. Most force majeure and limitation of liability provisions are written to be mutual. They don’t need to be changed.

In is usually in places like the indemnities, warranties, termination rights, insurances, and company or parent guarantees where suppliers may want terms to be mutual. Let’s look at each.

General Indemnity against personal injury, death or property damage caused by a product. For this term the concept of agency really applies. The buyer wants the indemnity from the Supplier as the Buyer may be liable for the supplier’s acts, whereas the supplier is not going to be liable for the buyer’s acts. If injury or damage sustained was caused by the buyer using the supplier’s product in a manner that was not allowed under the specifications or the agreement, that use would be a breach of the agreement and the supplier would not be required to indemnify the buyer. If the supplier was also sued as between the buyer and the supplier, the
buyer would be the one that was negligent and would be forced to pay.

Intellectual Property Infringement Indemnity. Most intellectual property infringement clauses have exceptions to the indemnity and one of those exceptions is when Buyer’s designs or directions cause the product to become infringing. In those cases the supplier would not be responsible to indemnify the buyer. In the U.S. infringement claims can be made in two ways. One is to file an infringement claim with the International Trade Commission seeking to prevent the import of the infringing product.

The other is to bring a claim against the seller of the infringing product seeking to both enjoin or restrict further sales and get damages for the infringing products that were sold. An ITC 337 claim of infringement is not a claim for damages, its simply a request to prevent the infringing products from being imported. So there would be no claim against the supplier that would need to be indemnified. In a lawsuit for infringement of Intellectual property rights that was based upon buyer provided design or instructions, as the primary goal of the suit is enjoin further sales of infringing products, there is little likelihood that the supplier would be sued as its the buyer that is selling the infringing goods to the marketplace. In the unlikely event that they were also sued, they would claim against the buyer as the buyer was the one that provided or instructed the product to be provided in a manner where it was infringing. The only real risk to the supplier would be if the buyer was unable to pay for the claim and the court found them to in any way be liable.

Warranties
Standard Contracts contain a number of legal warranties such as:
Right to enter the contract. This could be mutual
Performance will comply with contract, laws, regulations, etc.. Under the theory of agency the supplier would not be liable for buyer’s acts so this need not be mutual.
No claims or liens threatened. Third party claims against supplier property as a result of buyer’s actions would not occur.
The Product or Service conforms to warranties and specifications of the contract. This is strictly a supplier warranty.
The product is free of defects in design and safe for use. This could be subject to a form of mutuality where you would carve out buyer provided designs and instructions/
The Product is new, and not re-conditioned. This is strictly a supplier warranty.
Performance complies with all applicable laws. Under the theory of agency the supplier would only be liable for their own performance. They would not be liable for the buyer’s complying with applicable laws

Taxes. The supplier may have responsibility to calculate and collect taxes from the buyer on the sale of the good or service. If they collect those taxes and fail to pay them the buyer could be liable to pay them. The supplier would never be liable to pay taxes that the buyer owes. They are the agent, not the principal.

Termination rights. In most termination provisions the right to terminate the agreement for cause is already mutual. If the buyer has the right to terminate the agreement without cause the supplier may want that same right. In most buyer only termination provisions the supplier is made whole in the event of the termination where the buyer has to pay the actual and reasonable costs associated with the termination. In deciding whether to give that same right to the supplier there are a number of factors that would need to be considered. First would be what the impact to the buyer would be. Could the buyer order from another supplier such that continuity of supply or service would not be impacted. If you couldn’t the period of time for the termination to take effect would need to be different. How much effort and cost was invested to qualify the supplier and produce the product or service. If the supplier isn’t going to pay you that for the right to terminate why would you agree. There could potentially be mutuality but the terms would clearly need to be structured differently.

Insurances. Insurance provisions are included to protect against third party claims for personal injury, property damage etc. Under the law of
agency the buyer can be liable for the acts of their agent which is the supplier. The agent (supplier) is never liable for the acts of the principal (buyer). Suppliers are not going to be liable for personal injury or property damage caused by the buyer or its employees. The buyer could be liable for workers compensation claims of from the supplier’s employees, but the supplier would never be liable for workers compensation claims of the buyer. The one area where the supplier may have a reasonable request for the buyer to carry insurance is when buyer owned equipment or materials are stored at the buyer’s site. Even then, either party could carry that insurance so its not something that only the buyer can do.

Parent or Company Guarantees. When I’ve asked suppliers for a parent or company guarantee when they wanted me to purchase through one of their subsidiaries that wasn’t financially qualified on its own, I’ve received requests that it be mutual. When that occurs I will usually point out the differences in responsibilities. As a buyer my primary responsibility is to pay for the goods or services that I purchase. So in dealing with me all the supplier needs to do is determine whether I have the ability to pay. In dealing with a supplier subsidiary there are many obligations that they as the supplier must meet. It’s not just whether they have the financial assets to perform its whether they could meet all of the obligations they have under the contract. Must supplier subsidiaries that a supplier wants you to deal with are sales subsidiaries and simply do not have the capability to do things like re-design a product that is defective or that needs to be changed as a result of a safety or infringement problem. If my agreement is only with that subsidiary, I have no privity of contract with the Supplier parent where I could force them to perform. They don’t need a parent guarantee if I can pay the bills, but I need one to ensure performance they have the resources of the parent to meet the contract commitments if the subsidiary can’t

For any other areas of the contract where the supplier wants terms to be mutual, always consider the potential impact of the mutuality. If acts are not of equal risk, remedies for failing to act should not be the same. In those cases mutuality should mean something that is commensurate with the potential cost or risk impact.


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Tooling

There are many ways you may be locked into using a supplier. Tooling is a good example. When it comes to making a tooled part there are two issues. Who owns the design of the tool and who owns the tool itself.

When you are having a supplier make a tooled part and you want the flexibility to be able to change suppliers, you should own the design and the tool so you can move the tool to another supplier. With the supplier you would enter into what’s called a tooling agreement.A tooling agreement is very similar to a bailment or loan situation. Similar to a bailment you want:
> You want the tool to be identified as your property.This is done to protect it in the event the supplier went bankrupt. In a bankruptcy situation if you can prove that property held at the bankrupt supplier's site is yours you can recover it. If you can't prove that, your rights in that property are no different than any other creditor.
> You want to require that the supplier not encumber the title to the tool.
> You want the supplier to insure the tool and have you named as the loss payee.
> You want the tool to not to be moved without your agreement.
> You want the supplier to not alter or modify the tool.
> You want the right to inspect the tool.
> You want the right to remove the tool at any time.

The unique requirements that make it a tooling agreement would include:
> Limitations on use, so the tool is only used in making products for you unless you agree otherwise.
> Requirements that the supplier service and maintain the tool and keep it in good working order.
> Responsibility defined for replacement of the tool when the tool is no longer useful. Normally the supplier would be responsible to replace the tool if they were negligent and damaged the tool. It is also normal that the buyer would have responsibility for the cost of replacement if replacement was required as a result of normal ear and tear. If you allowed your tool to be used
by the supplier in production for their other customers, you would want the other customer to both pay you for using the tool and share in the cost of the replacement.
> If you were concerned about the supplier using the design or the tool with other customers you would want to restrict them from making copies of the tool.

In most situations the buyer wants to own both the design of the tool and the tool itself. Owning the design of the tool makes it your intellectual property that the Supplier couldn’t use to have tools made for others without infringing your intellectual property rights. If you own the tool,unless you have another commitment with the supplier that locks you into using the supplier (like a firm quantity commitment), you have the flexibility to move the tool at any time to another supplier. That helps keep competition in the equation for future negotiations. If supplier owned the design of the tool, you couldn’t use the tool with another supplier. If the supplier owns the tool you can’t move it. You would need to purchase it, and the supplier has no obligation to sell it to you. That puts you into the position where you have two choices and neither of them are good. You can stay with the supplier and be locked into using them, or you would need to have a new design and buy a new tool to move to another supplier.

Should your contract require the supplier to accept all purchase orders?

When you write a blanket or master agreement with a supplier the goal is to be able to get products or services from the supplier when you need them. If your agreement doesn’t say anything about accepting all orders each time you issue an order the supplier could refuse to accept that order, negating the value of having the agreement with the supplier in the first place.

There are several reasons why a supplier may not want to be obligated to accept all purchase orders. One is they have a limited capacity and as a result may not be able to meet the demand reflected by your order within the lead-time agreed. A second is the supplier could be in a situation where they have excess demand from all their customers and need to allocate the product among all of its customers. A third is they have excess demand and they simply want to sell their limited capacity through the channels where they make a higher profit margin. For example OEM’s prices are usually lower than the selling price to the supplier’s distributors so they would make more profit selling through that channel.

From a Buyer’s perspective, if you need an order delivered by a specific date the last thing you want to have occur is have the product or service simply never be delivered because the supplier failed to accept the order. At that point, even if you did have an alternative supplier that could deliver, you would either need to wait their lead-time to get delivery or, if it was available through distribution, you would need to pay a much higher price to get them item. If you are single sourced with a supplier or are counting on supply form that supplier and they don’t accept the order, your supply chain is now broken and you won’t be able to do what you intended to do with the purchase. This can potentially stop you from shipping your own product or providing your own services and that will impact your company’s revenue and profits.

Contract terms should be there to protect the continuity of supply that you are dependent upon. Every contract that I’ve ever written where I was dependent upon the supplier’s performance I would always include a requirement that the supplier will accept all purchase orders. If the supplier pushes back on that requirement, I will normally agree to include the following concepts
for that commitment:

The purchase order must comply with the terms and conditions of the agreement and not contain any additional or different terms unless the parties have agreed that they will accept such terms (for example the terms reflect a supplier quote)

I will agree to negotiate, as part of the agreement, limitations on the quantity that they are obligated to provide me without requiring their agreement. That may be done by including a specific quantity limit, or by establishing an agreed forecasting process. This allows you to plan and manage in advance any potential shortages.

Lastly I will agree to negotiate a provision where in the event the supplier needs to put the supply on allocation, I will accept a reduced quantity under that purchase order as a firm commitment and anything over that quantity as something that they will use reasonable commercial efforts to provide. The commitment to accept less than the order amount in the event of allocation would be conditioned upon my getting a pro-rata share of the available quantity based upon the percentage of my prior business with the supplier on those products or services. What this last requirement does is prevent the supplier during periods of allocation from shipping a higher percentage of their products or providing a higher percentage of their services to other customers where they may make a higher profit margin or have a closer relationship.

If I need to count on a supplier to perform and the supplier is unwilling to commit to accept all purchase orders with these three conditions attached, I would simply tell them that since I can’t count on them for delivery they can expect several things. First I will need to establish alternative sources of supplier, they will never be a single source. Second it will also mean that amongst multiple suppliers they will never be consider a primary source of supply. Supply is not a faucet that you can turn off and on. If you can’t rely upon them to deliver, the majority of your business you will need to give to suppliers that you can rely upon.

Purchase orders under agreements

Should the Purchase Order become part the Agreement or should the Agreement become part of the Purchase Order? What happens when a supplier wants to exclude purchase order terms.

When you write an agreement that contemplates the use of purchase orders such as a blanket or master agreement would do,that raises a number of issues within the negotiation. Suppliers will always be concerned with the fact that there could be additional or different terms included in the purchase order that could slip through. Most purchase orders seldom require the supplier’s written acceptance. Many get sent and acknowledged electronically. If the purchase order is made part of the agreement, it functions as a later agreement between the parties on the subject matter and could wind up amending the agreement unless you required that al amendments be signed in writing.When you write an agreement that is silent with respect to purchase orders, you would need to incorporate the agreement by reference into the purchase order each time you issue a purchase order. If you failed to do that, only the terms contained on the purchase order would apply.

I believe that you can meet both parties concerns if the Purchase Order clause and the Order of Precedence clause are properly constructed. Here’s how:

1) In the definition of Agreement you would include the purchase order as being part of the agreement but limit that to only the purchases covered by that purchase order. This makes it clear that the intent of the parties is not to amend the Agreement. If you agreement already required any amendment to be in writing between the parties that part out not be needed For example:

“Agreement shall mean this Agreement and any other documents referenced in this agreement. Any unique or different terms contained in a Purchase Order shall apply solely to the purchases made under that Purchase Order.”

2) To address the concerns the supplier has about something slipping through as part of the Purchase Order section I would add language that specifically disclaims any additional or different terms in either the buyer’s purchase order or the supplier’s acceptance (as it could go both ways),

From that disclaimer I would carve out two things.

I would carve out any terms that comply with a valid supplier quote. This means that if the supplier offered a better price, lead time or payment terms, etc. in the quote those terms would apply for purchases made using that quotation even though they were different than the terms in the agreement.
I would also carve out any terms in the purchase order that simply don’t need agreement by the supplier in writing. For example, for ex-works delivery terms you shouldn’t need approval on the ship to location specified in the P.O. If you provided forecasts that were already agreed, you shouldn’t need to have mutual agreement as to quantity as long as the order is within the forecasted quantity. An example of that type of clause could be

“Purchase Order means Buyer’s authorization, in either tangible or electronic format, for Supplier to conduct transactions under this Agreement. Except for orders that comply with a valid supplier quotation or terms listed below where agreement of the parties is not required,
any additional or differing terms contained on the Purchase Order or in Supplier’s acceptance shall not apply unless specifically accepted in writing by the parties. The following purchase order terms do not require written agreement: a) Delivery dates with lead-times that are equal to or greater than the agreed lead-time, b) any quantities specified where buyer and supplier have agreed upon forecasted amounts and the order is within the forecasted amount, c) any changes to ship to location if Buyer is purchasing the item ex-works.”

3) In the Order of Precedence section you would have the precedence say something like::
Order of Precedence
In the event of any conflict in these documents, the order of precedence will be:
1. Those P.O. terms that were mutually agreed in writing by the parties and those terms listed on the P.O. do not require mutual agreement in writing by the parties in accordance the definition of Purchase Order, then to
2. the Agreement.

If you had other documents that are part of the agreement such as a statement of work, specifications and drawings, and other documents, those document should also be listed in the order of precedence or their order of precedence. If you fail to do that those documents will have the same precedence as the document it was incorporated into..

The little publicized fact about win-win negotiations

In books about win-win negotiations the traditional zero sum negotiation is graphically described as a triangle

This showS it as a fixed pie where for either party to get more the other party must get less as is represented by the area in the triangle. The more buyer gets the less supplier receives and vice versa.

When they describe win-win it is graphically described like this where the area is expanded to the pareto optimalization curve:

There is another concept called value equivalence. Graphically that looks like this

The concept of the value equivalence line is simple, the more something costs, the more value you want. Items where the cost is above the value equivalence line would be good for the supplier but bad for the buyer, That’s because the buyer is paying more than what would be warranted for the value received. Items below the value equivalence line would be good for the buyer as they are getting more value for a lower price, they would not be good for the supplier.

When you merge the concepts together what you see is the real story behind win-win.

When you expand the pie the only point in the expanded area where both parties get a win of equal value is when the value of what you are giving up is equal to the value that you are getting
and that falls on the value equivalence line that I highlighted in red..

If the point at which you settle is above the value equivalence line, you may get your win, but the supplier is getting a bigger win. If the point at which you settle is below the value equivalence line, the Supplier may get their win, but the buyer is getting a bigger win.

Whether it’s dividing up the limited pie of the traditional negotiation represented in blue or the expanded area needed for “win-win” negotiation represented in green, you are still dividing the pie. It’s still a negotiation. The other party still wants to win. They also want their win to be much bigger than your win. Unless the cost of what you are giving up to get you win is equal to the value you are receiving to get that win, you really aren’t winning.

I’ve never been convinced that principled negotiations really work in most procurement and while everyone in procurement should understand the concept, they also need to know how to negotiate in a traditional win-lose model. From a procurement perspective, how realistic is it to expect to be able to expand the pie to move into win-win negotiations? If you can't “expand the pie” principled negotiations won't work.

Let's put the idea of expanding the pie into a procurement perspective;

Most companies are best in class in maybe one product or one line of business. I don’t know any that are best in class with all lines of business and all products or services. So the first question is do you want to expand the business you have with the Supplier into those products or lines of business where they are not best in class just to get a win?

You could potentially expand the pie by giving a supplier a larger percentage of your business. There are costs or risks associated with doing that. What happens if there is a problem with their supply and you don’t have an immediate alternative you can use?

You could potentially buy more of their best in class products to expand the pie, but what impact will that have on your ability to leverage your other suppliers? You may wind up getting more from the one but losing with the other.

There will be times when what you are buying is all that you need or want so there is no
opportunity to offer anything more than a good faith promises to use them in the future. Most suppliers that I know need to see a benefit to them today before they will agree to give you a concession.

On major deals you may be able to expand the pie, but that frequently complicates the negotiation. It doesn’t complicate it with the supplier, it complicates it with the internal stakeholders that may be impacted and who will always focus on their interests. Officers of the company that can look at what’s best for the company without being weighed down by individual group’s interests usually have a better chance to use principled negotiations than procurement people.

The one area where I’ve seen win-win or principled negotiations work in procurement is when
both companies have a common goal of teaming together to win a customer’s business. Even there it can be difficult. For example if a supplier has a product or service that the customer wants or has specified and that supplier knows it, the negotiation between the prime contractor and the supplier may be a win-lose negotiation as they know they have the business. So unless the prime can offer them something that relates to another project where the supplier doesn’t have, but wants that business, it’s hard to expand the pie and get into principled negotiations.

The one aspect of principled negotiations that every procurement person can learn from is the advice to focus on interests, not positions. Part of any negotiation is being able to reason or explain to your counterpart what your interests are and why you have the position / interest you have. Most of the time that will open a dialog where since they now understand the issue or the problem they can look at their position and view it against their real interests.

Title and Risk of loss

Title means that legal ownership in the item purchased.Risk of loss describes whose responsibility it is if purchase is lost or damaged in transit.When you use INCOTERMS each different term defines the specific point at which the risk of loss transfers. There is a new version of INCOTERMs that became effective in 2011. Like previous INCOTERMS it does not describe the responsibility for insurance unless a term requiring insurance is specified such as CIF. Buyers should know that insurance coverage under CIF is very limited. It only covers major casualties, so if you want to protect the shipment you should specify your own limits for coverage.

Title is different from risk of loss as the parties can specify a different time and place for title to transfer. For example, a supplier that sold a major piece of equipment to a customer may want to specify that title doesn’t transfer until they receive payment from the Buyer, or they could transfer title subject to a security interest in the product (a lien) that would be released upon payment. A supplier could specify that title will transfer at some point while the item is in transit. For example, A supplier in Country A could specify that title transfers while the item is on the high-seas before it arrives at Country B irrespective of the delivery term.

The reason why a supplier or buyer might want to have title transfer at some other point is the sale legally occurs at the location where the title transfers. Where the sale occurs can be very important. The supplier in Country A with a customer in Country B may not want the sale to occur in Country B. That would make that a local sale within Country B. Being a local sale would subject the supplier to needing to be registered to do business within country B. It would make the supplier also subject to the laws and taxes of Country B,which may not be favorable.

A buyer that was purchasing a product for resale could have a similar concern. For example a Buyer may want to have a simultaneous purchase and sale of the items while it’s on the high seas. They buy the item from the supplier in Country A. The delivery terms will cover the delivery and they will specify that title transfers to them on the high-seas while it is in-transit.So when they get title passed to them while it’s on the high-seas, they may also transfer title to the customer from Country C simultaneously so their sale is not occurring in Country C. That makes it an international sale and the customer in Country C would need to import the product into Country C.

In addition to having title transfer on the high-seas, you could also specify that title will transfer in a free trade zone. A free trade zone is an area located in the country (in our case Country C) that is prior to customs clearance. Since it is prior to customs clearance, a sale there is not considered to be a sale within that country. If you look for Supplier to maintain stocking areas in another country, the use of free trade zones with title transferring in the free trade zone is something you should consider. It allows you to get the material closer to your point of use without subjecting the Supplier to having to register to do business in that country. It avoids having it be a local sale where payment in local currency would be made and the supplier would then need to figure out how to repatriate the funds. It avoids the supplier having to pay taxes on the proceeds of that sale in that country. Lastly, it keeps the Supplier from being responsible to comply with those local laws.

A new way to find posts

Yesterday marked two events - I reached three hundred and fifty (350) posts. More important, I also launched my new website KnowledgeToNegotiate.com The importance of the website is
it has a page that lists all the posts alphabetically with hot-links to take take you directly to that blogspot.com post. No more having to hunt for dates or look through the multiple posts of the day to find what you are looking for!

Limitations of Liability versus Insurance

When would you carve insurance out of the limitation of liability?

When you contract with a supplier you may require the supplier to carry a number of insurance policies such as:comprehensive general liability; comprehensive automobile liability; workers compensation; employers liability; crime or employee fidelity; property liability; professional errors and omissions; umbrella liability; or excess liability. (A description of each is in the March 10, 2011 post). Many times the limits of the insurance coverage may exceed the contract price. Unless specific items are carved out of the limitation of liability provision, the limitation of liability provision would limit what could be recovered under those provisions. For example if you required $5.000,000 for comprehensive and general liability and $5,000,000 for auto liability but had a cap of $1,000,000 in the limitation of liability and didn't carve the insurance provision out of the limitation of liability, the most you could collect would be $1,000,000. Carve outs from the limitation of liability can be done either in the limitation of liability section or in the specific section you want to exclude from the limitation such as insurance.

A limitation of liability is about limiting the liability of the parties to the agreement. It's not about limiting the liability of their insurance company. When you carve insurance requirements out of the limitation of liability that has absolutely no impact on the supplier. The supplier has no greater exposure. Their liability is still limited to what was agreed in the contract. What it would do is create a form of deductible to the supplier’s potential liability. For example, if you had a $5,000,000 policy and suffered insured damages of $5,000,000 or less, the insurance company would pay and the supplier’s only cost would be their deductible..If the loss was $6,000,000 and the supplier had a $50,000 deductible on the policy and you had a $1,000,000 limit of liability, the insurance would pay $4,950,000, the Supplier would pay the $1,000,000 and you would have $50,000 that you couldn’t recover..

If your limitation of liability already excluded a general indemnification where the supplier agrees to defend, indemnify and hold the buyer harmless from third party claims for personal injury or property damage you probably wouldn’t need to include a carve out in the insurance provision if that was the only type of liability that you were concerned about. If the coverage
addressed loss or damage to your property a general indemnification would not protect you. So if the limit of liability was less than the insurance coverage you would need to either carve the insurance provision out of the limitation of liability.

On something like this you should always work with your lawyer, Here’s an example of what carve out language in an insurance section could look like.

“Any limitation of liability set forth in this Agreement shall not preclude Buyer from claiming under any insurance placed or provided pursuant to the Agreement up to the full amount payable under such insurance.”

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Creating Safety Nets.

Many times a specific term may be unique to a product or service or class of products. For example the warranty against defects in material and workmanship may be different for different products. The tendency may be to point to another document that would establish the specific term. For example the Warranty period for Defects in material and workmanship shall be specified in Appendix A. That approach works well when you follow each commitment to verify that the term has been established. I’ve run into a number of situations where it wasn’t managed.

I’ve run into agreements that point to another document to establish the warranty term only to discover that the document it pointed to never established the warranty term so there was no warranty. I saw a situation where an agreement pointed to another document to establish an epidemic defect rate. When I looked at that document it pointed to another document to establish the rate. When I reviewed the third document, no rate was established. Since there was no threshold rate established to trigger the ability to collect under the Epidemic Defects section, we were unable to collect under the terms of the agreement for what turned out to me a situation where the cost of the defects were in the hundreds of millions of dollars.

To prevent things like this from falling through the cracks, it’s best to include what I call a safety net. Safety nets are created by including language in the original term, which establishes a minimum or standard, but provides the ability to agree to something different.

For example:

“Unless otherwise agreed by the parties in writing in Appendix A, the warranty period against defects in material and workmanship shall be two (2) years.” This creates an automatic 2 year warranty, but allows the parties to agree to something longer or shorter depending upon the circumstances.

“The epidemic defect rate shall be one percent (1%) unless the parties agree in writing in Appendix A to a different epidemic defect rate.” This establishes a default rate of 1% which the parties can change by later agreement.

“Sixty days prior to the term of the Agreement, the parties shall meet to negotiate the price for the next twelve months, which shall not be more than the then current Price.” This guarantees that the price for the extension will be no more that the current price, but allows you to negotiate something better so you aren’t locked into a Supplier with no leverage over what the cost would be.

Here’s an example of another form of safety net. In your negotiation of liability for defects you agree that their maximum liability will be no more than one times the prior years purchases. However during the first year, there will be no prior year’s purchases. Further a problem could occur more than a year after you stopped purchasing. In both cases, relying on the prior years purchases would limit their liability to zero. To prevent that you would include a safety net by also including a fixed amount. For example “Supplier’s liability for _____ shall not exceed one (1) times the prior years purchases by Buyer or one million dollars (US$1,000,000.00), whichever is greater. The Impact of doing this is you would have the minimum amount to rely upon. If sales go up, the limit goes up.


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Do Procurement or Contracts Groups Have "Brands"

In selling companies spend millions of dollars creating and protecting their company’s brand(s).
A brand is promise of value to customers. With a well-established brand, when a company introduces a new product or service using that brand they want the potential customers to expect that new product will have attributes that are similar to other products of the same brand. For example Tide™ laundry detergent is a brand of Proctor & Gamble. Proctor & Gamble sells many different products with the Tide™ brand.They want buyers to consider those products as having the same basic quality and attributes as the original Tide product. The Apple “Ipod, Itunes, Iphone and Ipad are all brands that Apple wants customers to see as having slick designs and leading edge technology.

Procurement is involved with brands in two ways. First, their sourcing decisions can either support or severely harm a company’s brand image. For example sourcing a product that has quality problems causing major customer dissatisfaction with a product can almost destroy a brand. When Ford Explorer SUV;s with Firestone Tire Company tires experienced roll-overs and injuries and deaths,think about the impact that had on their brand images.

How a procurement or contracts organization conducts their business with suppliers will also create their own reputation that forms a type of “brand” for the group. I wrote a little suppliers qualifying buyers before determining whether to bid or provide a proposal. (See Jan 3, 2011 post) but I wanted to add to that from a brand perspective.

Your group’s “brand identity” is formed by a number factors in addition to those listed in that post. You will be viewed and your “brand image” or reputation will be based upon:

The quality of your procurement documents, specifications etc.

How you negotiate and whether you use dirty tricks.

Whether you consistently negotiate after bid or proposal.

How reasonable you are at listening and working to solve problems in negotiations.

Whether you use multiple levels of negotiation.

How frequently you come back to the supplier after the negotiation to further reduce cost.

How good your estimates of volume and forecasts are.

The amount of expedited activities that occur from shortages.

How well you manage to any volume splits you promised.

The frequency and magnitude of any changes you make to the work.

How you respond when there are problems.

How you manage them.

How well you meet your commitments during performance.

When you come back to them for credits or reductions for performance issues – is it every issue or just major issues.

What your administrative requirements are and how cumbersome they are to meet.

What reporting requirements you have and the cost of those.

Whether you consistently pay as promised.

How reasonable you are when disputes arise.

Etc., etc., etc.

Once your “procurement brand” is formed current suppliers know how to deal with you and potential supplier will quickly try to discover your “brand” or reputation before they negotiate with you. What they learn about your brand will impact how they price things, the costs or contingencies they include and how they will negotiate. You may beat a supplier once, but they will remember that for the next negotiation.

There is one last point, when you establish your “brand”, that’s how the supplier will expect you will operate and their response will be according to that image. For example if you frequently come back to suppliers to reduce cost and they know that, the initial cost they give you won’t be their best. They will hold back to provide you with that cost reduction you will be looking for later. While the cost reduction will look good towards meeting the metrics of reducing cost, it really isn’t a savings. If they knew that you won’t come back to them to later reduce cost you may have been able to have those savings from the beginning. Instead they won but not giving it earlier and they have buyers thinking they won because they met their cost reduction goal.



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Sourcing in low cost geographies

When you have been involved in procurement for as many years as I have, you’ve seen the migration of low cost sourcing continue to move to different countries and new suppliers. For the industry I was in, I saw movement from Taiwan and Hong Kong to Singapore, then to Mexico then Korea along with a number of countries and currently with China and India. In certain industries there have been migrations to other low cost locations.

Other than governmental rules and regulations,the problems you face each time are pretty much the same. How do you know the supplier is real? Do they have the capability? Is there product high quality? Will they ship on time? Do they have the financial assets to perform? Are they doing the work or are they sub-contracting to the back-alleys? Do they have the legal right to manufacture the product, etc.?

In a recent post on LinkedIN there was a simple question raised: "Being a sourcing manager how to verify your supplier without an on-site visit". There were a large number of responses that fell into four categories. One was you need to do much more than just an on-site visit. A second was that buyers absolutely needed to do a site visit. The third group was individuals providing suggestions on how to do it. The last group was responses from companies that wanted to function as your purchaser or sell you a service. Those responses were from individuals and companies that want to sell their buying services or sell inspection and on-site audit services for both qualification and management. It’s this last group I want to discuss first.

There was a store I would go to on occasion that had a sign I remember “In God we trust, all others pay cash”. That sums up my attitude that unless the person is from my company or from another company or supplier where I know and trust their opinion because they have earned it, I don’t just trust what people say. To purchase products or services from a third party you really need to do due diligence on that company as much as or even more than the Supplier itself. While there are reputable companies that perform these services, there frequently are also a large number that may not be reputable or have the capability they promise. In addition to their fees they may also be working kickbacks from the suppliers for either giving them the business if you were to have them do buying or kickbacks for looking the other way and not providing you with the service you need.

The other problem with having someone purchase materials is none of these companies are authorized channels of the supplier like an authorized distributor would be. What this means is you have no privity of contract with the supplier in the event of a problem. Most suppliers don’t allow third parties to pass on the terms they received in the purchase to their customer so any warranty wouldn’t come from the supplier, it would come from the buying company. When you buy through these types of companies its like buying a product on an as-is basis with no warranties or indemnities.

As to the other groups, my own opinion is that what you need to do in qualifying suppliers is clearly dependent upon the risks you would have if they failed to perform. For anything but very low risk, low cost and low volume situations I would always recommend both significant due diligence of the suppler, product samples and on-site visits.

I have written a number of posts that I would recommend reading

Supplier financial analysis – January 26, 2011

Supplier risk - pre-qualification of the supplier risk – January 26, 2011

Supplier surveys – common questions to ask and why August 12, 2011

Lastly I would strongly suggest reading "supplier qualification or vendor validation use in negotiation" dated August 8, 2011. On-site visits allow you to add two additional dimensions to the qualification process that you can use in both making sourcing decisions and in negotiations. The first additional dimension is “what is the cost impact of what I see in their operations”. You use that in both negotiating cost but also identifying whether the Supplier will be capable of delivering future price reductions and that is something you would want to know if you planned to use the supplier for the long term. The second additional dimension is what problems do I see form the site visit. Get a tour of their entire operation from raw material incoming to final shipment. You use the information about problems to potentially eliminate them as a source. You can use it to get commitments negotiated into your contract to make sure you don’t have those problems or you have appropriate controls and remedies if you do. You can also use it as leverage to get a better price versus their competition. If you don’t have the skills to understand and evaluate what you see, bring someone along who does and learn from them what you need to look for.

If you learned from this post, think about how much more you could learn from the book.
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How do you deal with a situation where the other side insists their standard terms must apply?

That question was posed on a LinkedIN site so I decided that I would discuss it here. There are a number of ways to push back. My favorites are:
1. Legitimacy / competitive benchmark
2. Risk and control.
3. Cost Impact.
4. Problems it creates that need to be solved.
5. Behavior it will drive and
6. Competitive benchmark.

My first approach is legitimacy linked to competitive benchmark. This isn’t a price benchmark it’s a benchmark terms and their competition. In this you explain that for all other suppliers you use your terms showing legitimacy to your terms. If they still insist on using their terms I would make it clear that any differences will need to be offset. I would further make it clear that any differences will also impact sourcing from them each and every time there are competitive products. This sends the message that while we may use your agreement to start from, where we are going to wind up in the negotiation is going to be no different than if you used your terms or they simply will not get business.

Any time you deal with the other party’s standard agreement there are two things you need to do to start. The obvious one is to review it for what it says. The other is to review it against your standard terms to see what is missing and identify what you need to add to the other party’s standard agreement.

When I look at a supplier’s terms the first thing I look at is risk. What risks are their terms the looking for me to assume. If they want me to assume a risk, I want to make sure that I can manage that risk. Most of the time managing the risk will require that you have control over what actions the supplier can take that could create the risk. When you insist on control as part of assuming the risk, most suppliers don’t want that control. So you link those two issues together. If they want you to accept the risk, you must have the control. If they don’t want to give the control to you, its then a risk you can’t manage. I always insist that the party that has the greatest ability to control the risk should be the one responsible for managing it. If that doesn’t get you what you need then you next link it to cost.

Most terms in the agreement will either have a cost or will drive a cost. Risks, if they materialize, create costs. If the Supplier wants me to assume a cost, they are providing me with less value, so I put a price tag on it and want to pay them that much less for their product or service. That’s negotiating terms from a total cost perspective. If they reduce their price to offset the increase in cost I may agree to accept it. If they don’t I will always use that to explain what the impact of that is from a competitive benchmark perspective. In another post I wrote about value equivalence, I used that to show that other suppliers offer better value and what they are selling and any unique features they have is simply not worth the difference in the total cost of doing business with them,

Some terms will clearly create problems for you, so the next thing I would do is explain the problem that their term(s) is creating and look to them to solve my problem as a condition of getting my business. If the supplier provides an alternative that works for both of us I will agree as long as I get the same value. If they can’t or won’t, once again I highlight the cost or risk that their position is creating which means that they either need to solve my problem or I want to pay less because they are adding a cost to me in dealing with the problem. If I can’t live with the problem it will create, I will walk away from the deal.

Many times Supplier terms really aren’t well thought out of in terms of the behavior they will drive. For example if a supplier doesn’t want to give me a firm commitment where I know that I can count on them to deliver product in a high quality manner, on-time, every time, I ask them what type of behavior do they expect that will drive. I then tell them the cold hard facts that 1) I will never single source them. 2. I will never consider them for being a primary source for an item because I simply cannot depend upon them. I want to make it clear than with those terms all they will ever be is a low volume second source at best and the number of times I would use them will be very limited. This is not a message their sales people want to hear. You use the sales person view of the negative impact it will have on their meeting their sales goals and their commissions to have them help drive change.

My next approach is competitive benchmark. This isn’t a price benchmark, it’s a benchmark of both terms and value. You can explain how their terms aren’t simply aren’t competitive with the ones you have from other suppliers, especially their competition.. You can highlight that with their terms they provide less value than the competition. You can them highlight that whatever unique feature they may have that differentiates themselves from the competition is simply not worth the difference in value/cost. This sends the key message that you are prepared to buy another supplier’s product without those features because from a cost/value perspective another product will better meet your needs.

If none of these work and you need the supplier, make the smallest possible commitment you can make. Then develop plans to migrate to another supplier or another solution as soon as possible. If you don’t need the supplier, walk away and make it clear why you are walking away.

If you learned from this post, think about how much more you could learn from the book.
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High Risk Applications

Many supplier specifications, especially those for products that have broad potential uses, will contain language like the following:

“SUPPLIER products are not authorized for use in high-risk applications (such as life support) where a failure of the SUPPLIER product would reasonably be expected to cause severe personal injury or death, unless officers of the parties have executed an agreement specifically governing such use.“ “Buyer must fully indemnify SUPPLIER and its representatives against any damages arising out of the use of SUPPLIER products in such high-risk applications”.

In some cases the supplier may be truly seeking to avoid the use of their products in those types of applications simply because they do not want to be exposed to the potential liability that could occur. In other situations a supplier may be willing to assume the risk provided they can know and agree when its being used in that manner. The requirement for agreement by officers allows for both different terms and different pricing to be negotiated for sales into those applications. In times of shortages of certain electrical components for computers we would find that suppliers had inventories of virtually the same component with a different part number that was being sold in the medical products business for three (3) times the price.Whenever you encounter these types of provisions where the supplier is insisting on including such terms, always involve your lawyer.

Companies know how their product was designed, and how they intended it to be used. They don’t know how their customer may use it or how it may be used by subsequent owners. Those are things the buyer can’t control. A product could be cannibalized for parts and those parts could be used anywhere. So the first problem with such a provision is it makes the buyer liable over potential use that they can’t control. The mere fact that the product ends-up in that use makes the buyer liable. The best the buyer may be able to commit is that they will not knowingly sell the products in those uses.

Even is a supplier would agree to having the buyer be liable only if they knowingly used the product those applications, most language is still far too broad. The problem with the language
above is they that didn’t define a high risk application. They gave one example (such as life support) and then combined that with a very open ended statement (combined where a failure of the SUPPLIER product would reasonably be expected to cause severe personal injury or death”.
Under that definition any item that failed and caused a fire which caused personal injury or death,would be considered high-risk. Any item that failed and caused a short circuit that could severely injure or kill someone would be considered high risk. For electrical components that would mean that every component that had high voltages running through it would be high-risk. I don’t think that’s the goal of high-risk. To agree you would need to clearly define exactly what high risk uses are, so that you could understand when you were selling into those applications and could get your customer to agree to indemnify you.

I like to avoid these negotiations. The tactic I use is when the supplier is selling the same or similar products through distribution, I will ask them how are they managing the risk in those situations. They are not the supplier to the end customer, the distributor is. They do not have privity of contract with the distributor’s customer. How do they enforce something that’s not part of any agreement with the customer? The reason why I do this is if they can’t prove to me that they can manage and enforce it through that channel, I tell them don’t ask me to agree to do something they can’t do. Most of the time that ends it.


If you learned from this post, think about how much more you could learn from the book.
The cost is only US$24.95 plus shipping.The hot-link to Amazon.com is just above the date.

Do you read supplier’s specifications or datasheets?

Many buyer’s may purchase an item in accordance with the Supplier’s specifications that their engineer or customer say that the product meets their needs? The question is do procurement people read the supplier specifications? Do the customers or engineers that want the product
ever read and understand anything that’s may me in those documents other than the specific technical specifications? If they do, do they understand what everything means? If you are using the supplier specifications to define what you are purchasing you better read them.

Many times the supplier specifications are made part of the buyer’s agreement with the supplier as it’s a fast and easy way to define what is being purchased. The problem is that when you make those part of your agreement they could contain terms that restrict or limit the product’s use, they could also add terms that add to or conflict with the agreement and change your rights or liabilities under the agreement. Some suppliers will include those terms in the very beginning of the specification where they will be quickly or easily found, but I’ve also seen a large share hidden in the very back of the specification, sometimes in much smaller print.Many of those terms are not favorable for the Buyer.

To avoid that happening to you the first thing you need to do is read the specification to see exactly what the specification contains. Having an order of precedence clause in your agreement may not help you for two reasons. First you need to understand what precedence that specification would have. If the specification is made part of a document that has higher precedence than a master agreement, that specification would have priority over the master agreement. More important, order of precedence only comes into play when there is a conflict between the two documents. If terms included in the specification don’t conflict with what’s included in your agreement or other document, it’s now part of the agreement as written.

I did a sampling of supplier specifications and data sheets and here are some of the concepts I found in a number of them:

“SUPPLIER makes no representation or warranty as to the accuracy of such information.”
What they are saying is if any of the information is wrong and you have a problem it’s your problem.

“Supplier reserves the right to make modifications, enhancements, improvements, and other changes to its products at any time and to discontinue any product or service without notice.”
What they are saying here is we don’t care if our product works in your application or not and we don’t care about continuity of supply for your supply chain.

“All products are sold subject to SUPPLIER’s terms and conditions of sale supplied at the time of order acknowledgment.”
What they are saying here is we want to keep changing the terms and we want the sale to also be based on our terms.”

“SUPPLIER warrants performance of its products to the specifications applicable at the time of sale in accordance with SUPPLIER’s standard warranty.”
So they can change what the warranty is..
Do they even disclose what the standard warranty is?

“SUPPLIER products are not authorized for use in safety-critical applications (such as life support) where a failure of the SUPPLIER product would reasonably be expected to cause severe personal injury or death, unless officers of the parties have executed an agreement specifically governing such use.“
I’ll talk about this one in a separate post about high-risk use.

“Buyer must fully indemnify SUPPLIER and its representatives against any damages arising out of the use of SUPPLIER products in such safety-critical applications”.
Here they want indemnification based upon just use in that application. It makes no difference whether the Buyer had any knowledge of such use or sold a product intended for such use. I’ll talk about this one in a separate post about high-risk use.

It’s amazing the things you can learn when you actually read a supplier’s specification or datasheet.If you have suppliers that have these types of terms in their specifications or data sheets you need to exclude those terms from the incorporation by reference into your agreement.

If you learned from this post, think about how much more you could learn from the book.
The book is only US$24.95 plus shipping. The hot-link to amazon.com is above the date.

When would a supplier want to include limitations of liability in a specific section(s)?

Most contracts will have limitations of liability. In General Indemnifications you normally address liability for negligence of the Supplier for personal injury or property damage that is caused by their product or their negligence. Limitations of liability are also usually structured around breach of the agreement by one of the parties. In a recent on line discussion about whether incoterms need to be modified or supplemented, one individual noted that they include limitations of liability as part of their delivery terms. They also include requirements on insurance, limits of liability and different indemnification terms within the delivery terms. While I have two posts on March 3, 2011 about limits or liability, the discussion led me to think about what circumstances would warrant including such terms within the delivery term.

The conclusion I came to is if the product or material being shipped was inherently hazardous, a supplier would want to include those types of changes to their delivery provision at the point where they have no control over the shipment. Their concern would not be about the product in its normal use. In most cases the buyer in using it would have assumed the risk unless the material was defective. Rather their concern would be about the potential risks, liabilities, and damages that could occur when the material was in-transit. You frequently read about train derailments occurring spilling materials or tanker trucks getting into accidents where the contents spill or explode. This would especially be a concern if the buyer was purchasing the product or material delivered at the suppliers site.

As between the seller and the buyer, the seller would want to limit any potential liability while the item is in transit. They would want to change or cap any general indemnification they might have made about the product itself so that does not apply during transit. They would especially want to do that where they may not have selected or had control over the container or the carrier. They might further either want the Buyer to carry liability insurance for when the product is transit, have the carrier provide it, or they may agree to provide a limited amount of insurance for that period. All of these changes would be included in the delivery term so they only apply to delivery.

The Supplier won’t be able to avoid any personal injury claims made by third parties as those types of claims cannot be contractually disclaimed. If they are sued by a third party, whether they would be liable or not would all come down to whether they were negligent. As to any property damage claims that could result, if they make all the changes to the delivery terms they will have limited their potential liability to buyer. Unlike personal injury that can’t be disclaimed, property damage claims can be disclaimed or limited. Any third party whose property has been damaged or destroyed could only sue the carrier or buyer. The buyer could seek to enjoin the supplier in such a suit, but with the different terms contained in the delivery section those would negate any indemnification for those third party property damage claims. By avoiding the indemnification obligations they avoiding having to defend against the claim. The supplier would also have limited any contractual liability the supplier has to the buyer under the delivery section. The terms in the other indemnification, limitation of liability, or insurance sections would not apply while the item was in transit.


Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.

Terminating a contract that has no termination clause.

Under contract law performance is excused when all work contemplated by the agreement has been completed. It may be excused earlier by certain conditions existing. Two that are important in this discussion are:
1) Rescission (where the parties have agreed to stop it).
2) Lapse (where the contract term has lapsed).

If you do not have termination rights included in your agreement, the first thing to check is whether or not the agreement term has lapsed. If it has, the agreement does not need to be terminated, it has ended.

If it has not lapsed, you need to review the agreement looking for any firm commitments to purchase quantities and when liabilities accrue. Many agreements establish terms in the event there is an order or statement of work to be placed, but does not make firm commitments to purchase. Many agreements also have liabilities accrue only when orders are placed or when the supplier needs to make an investment or commitment. If commitments up to that date have been met, you may have no liability. If you do have liability you will need to negotiate a termination.

If you don't have firm commitments or liabilities, you can effectively terminate those types of agreements by simply stopping buying. With any old agreements you probably already have stopped buying anyway. If you want to clean out these old agreements that don’t have termination provisions and that you aren't using, the parties can mutually agree to rescind the agreement at any time. Most suppliers won't have a problem rescinding old agreements that aren't being used.

To rescind an agreement I would work with you lawyer to draft a rescission letter agreement.

These can be very simple. In the preamble paragraph you would describe both the agreement that you want to rescind and the reason why, such as the fact that there has been no business in a specific time. Second you would request that they agree to rescind the agreement as of a specific date. Third, you would establish that the rescission shall be without liability for either party for such rescission. Last you would have the rescission letter signed by individuals on both sides that have the authority to amend the agreement. As a later writing in time between the parties, the agreed letter to rescind the agreement without any liability for either party for such rescission ends the agreement.

The reason why you need to have a lawyer involved is so the letter is drafted in a way where you excuse the supplier of any liability for the rescission, but you don’t excuse them from liability that they would have on terms that survive the expiration or termination of the agreement for all the purchase that were made prior to the rescission.

The process is referred to by lawyers as "discharge by mutual assent"

In some jurisdiction such as England, you may also terminate a contract that has no term or termination clause by providing the other party with reasonable notice. In that situation you would need to have no firm commitments to the other party for purchase or delivery and the notice period could be also long as it would take the other party to reasonably find replacement business.


Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.

Strategies for dealing with Procurement

Saw and interesting post on BuyersMeetingPoint.com that you may want to read. The post is called
Effective Strategies for Dealing with Procurement
It shows some of the strategies sales people are being taught to deal with procurement.

To get there go to their website,click on the drop-down menu called "The Flip Side" and then click on Blog.

When should you use Gross Negligence and Willful Misconduct in an Agreement

Gross negligence and willful misconduct are very high standards. Ordinary negligence is described as failing to do what a reasonable person would do. Gross negligence requires a conscious and voluntary disregard to a duty such as to make a product safe. Willful misconduct is a conscious or intentional disregard of the rights or safety of others.

Many times a supplier may only want to be liable to provide the buyer with an indemnity if their actions fall into one of those two high standards. The key in any negotiation is to consider the standards that you will be held to and make sure that your agreement with the supplier has the appropriate standards for any potential liability you may have. If you don’t you can wind up having to pay the full amount of a third party claim and not be able to collect anything from the supplier even though they caused the problem.

Let’s consider it first from a perspective of personal injury liability or property damage liability to third parties. If you agreed to and indemnity where the only time the Supplier would be responsible to indemnify you was if they were grossly negligent, let’s see what happens.

Gross negligence:

You buy a product from a supplier. You use that product in your product that you sell to a customer. The supplier’s product is defective and causes personal injury and property damage.
The third party sues your company because you are part of the sales chain. They may also sue the Supplier or you may seek to enjoin the Supplier in that lawsuit claim of negligence.

A claim of negligence does not require for the negligence to be gross negligence, it only needs to be ordinary negligence in failing to act as a reasonable party. In fact some courts have found strict liability for defective products. An item being “defective” is far different than “gross negligence”
If you agreed that the supplier would only need to indemnify you if there was gross negligence
his creates an imbalance. You could be liable to the third party simply because of a defective product, but the supplier would not be liable to you under the contract to indemnify you as the high standard had not been met. This does no insulate the supplier from the 3rd party claim it just impacts your rights with the supplier. This puts you in a poor position.

The injured party could sue you directly because you were in the sales chain. You could enjoin the supplier in the suit. Because of the higher standard the supplier doesn't have to defend or indemnify you or hold you harmless. You bear the cost of your defense. Further unless the court apportions a percentage or liability directly to the supplier, you would have with no recourse with the Supplier. You excused them from liability because their actions didn't meet the high standards.

Willful misconduct:

You receive confidential information from a third party. Under that confidentiality agreement you assume strict obligations for managing the information in a confidential manner. The exceptions to the confidentiality requirements do not include inadvertent disclosure. You have the right to disclose the information to the supplier provided that you have them enter into a confidentiality agreement that protects the owner’s rights in the information. In the negotiation with the Supplier on the confidentiality agreement they insert language that they will only be liable for willful misconduct. The supplier having received the confidential information makes a copy and goes to Starbucks to get a coffee. They leave Starbucks forgetting their briefcase that contains the confidential information. A reporter finds the briefcase and opens it to try to discover the owner to return it. They notice the confidential document and read it. The following day an article appears in their paper describing the confidential information. The owner of the confidential information reads about it in the paper and calls their law firm to sue you for the breach of the confidentiality agreement.

Since they entrusted you with the information as between you and the owner of the confidential information the standard that will be applied to you will be what you agreed to. You aren’t excused for an inadvertent disclosure, which it was. In your agreement with the Supplier you can only hold them responsible if their act was willful misconduct, which it isn’t. So you would be the
only party liable for the breach. You didn’t cause the disclosure to occur. You error was to agree to hold the Supplier to a lesser standard than you agreed to with the owner of the information.

The thing you need to remember is damage can occur even if the act itself did not represent gross negligence or willful misconduct. If you can be liable to a third party for acts that aren’t gross negligence or willful misconduct, if the supplier is the one that caused the damage you want them to be responsible. If you were to agree to only hold the supplier accountable for gross negligence or willful misconduct that leaves a large portion of your risk uncovered. You may have to pay the third party and not be able to recover anything from the supplier. A second thing to remember is Buyers can be liable for supplier actions. A buyer that resells a supplier’s product can be liable under product liability. Buyers can also be liable for supplier’s actions or inaction under the theory of agency.

Could you potentially use these higher standards in an agreement? If you are dealing with claims or breaches that will be strictly between the buyer and the supplier with no third party involvement, you could potentially agree to these higher standards as a way of sharing of the risk. That would be equivalent to saying that neither of us will be liable to the other for damages you sustain unless the act itself was gross negligence or willful misconduct. That makes it a form of no fault relationship where each party deals with their own damages unless the higher standards of gross negligence or willful misconduct are reached. Before agreeing to such a commitment I would want to make sure that there was a reasonable balance between the parties in their ability to cause damages or that the price I paid reflects my assumption of that risk. If you assume those risks your contract should have appropriate terms for you to manage and control that risk.


Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.

Principled Negotiations and Pareto Optimal Curves

In the concept of principled negotiations that was first discussed by Fisher and Ury in their books Getting to Yes, the key concept of being able to have a principled negotiation is the ability to “expand the pie” so you can focus on each party’s interests.In graphically showing the two options (win-lose versus win-win) win-lose is pictured as a ninety degree triangle. The top of the horizontal axis shows the Buyer winning all and the Supplier getting no win. The end of the horizontal shows the reverse with the supplier winning all. The diagonal axis sows that for someone to win, the other must take less.

Now picture that same triangle with a half circle placed on top of that The outer boundaries of that half circle are established by what’s called the pareto optimal curve which is the statistical maximum curve that is expected could be achieved.The area within the half circle is now the principled negotiation zone where both can get more. The concept is if you are able to expand the negotiation to include that other areas its possible to move the negotiation from a win-lose negotiation to a win-win where both parties can meet their interests.

I’ve never been convinced that principled negotiations really work in most procurement and while everyone in procurement should understand the concept, they also need to know how to negotiate in a traditional win-lose model. From a procurement perspective, how realistic is it to expect to be able to expand the pie to move into win-win negotiations? If you can't principled negotiations won't work. Let's put the idea of expanding the pie into a procurement perspective;

Most companies are best in class in maybe one product or one line of business. I don’t know any that are best in class with all lines of business and all products or services. So the first question is do you want to expand the business you have with the Supplier into those products or lines of business where they are not best in class?

You could potentially expand the pie by giving a supplier a larger percentage of your business. There are certain costs or risks associated with doing that. What happens if there is a problem with their supply and you don’t have an immediate alternative you can use?

You could potentially buy more of their best in class products to expand the pie, but what impact will that have on your ability to leverage your other suppliers? You may wind up getting more from the one but losing with the other.

There will be times when what you are buying is all that you need or want so there is no
opportunity to offer anything more than a good faith promises to use them in the future.
Most suppliers that I know need to see a benefit to them today before they will agree to give you a concession. If you can’t commit to that future business, any concession they might provide will be less.

On major deals you may be able to expand the pie, but that frequently complicates the negotiation not with the supplier but with the internal stakeholders that may be impacted and who will always focus on their interests. Officers of the company that can look at what’s best for the company without being weighed down by individual group’s interests usually have a better chance to use principled negotiations than procurement people.

The one area where I’ve seen win-win or principled negotiations work in procurement is when
both companies have a common goal of teaming together to win a customer’s business. Even there it can be difficult. For example if a supplier has a product or service that the customer wants or has specified and that supplier knows it, the negotiation between the prime contractor and the supplier may be a win-lose negotiation as they know they have the business. So unless the prime can offer them something that relates to another project where the supplier doesn’t have, but wants that business, its hard to expand the pie and get into principled negotiations.

The one aspect of principled negotiations that every procurement person can learn from is the advice to focus on interests, not positions. Part of any negotiation is being able to reason or explain with your counterpart what your interests are and why you have the position you have. Most of the time that will open a dialog where since they now understand the issue or the problem they can look at their position and view it against their real interests.

Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.

Is it a legal term?

Many companies want to have procurement involve the law department or outside counsel when they are negotiating “legal terms”. Few companies define exactly what those legal terms are. Businesses may also ask for guidance or what terms do they need to include outside counsel.

It never hurts to have counsel involved, but since companies need to manage legal costs and law departments don’t have unlimited availability of resources, you should work to establish guidelines to follow on when people really need to involve counsel. I’m sure views will differ, but here is a general list that I’ve developed.

Is it a “legal” term?
Preamble, parties and effective date No
Definitions Only if the definition is used in a legal term
Changes to the product or servce No
Supplier personnel, independent contractor Yes
Prices No
Products No
Services No
Taxes No
Purchase orders No
Pricing No
Taxes No
Payment & Acceptance No
Electronic commerce No
Warranties (not material and workmanship).Yes unless specific warranties are considered business only
Warranty against defects in material and workmanship No
Warranty redemption No
Post warranty service No
Epidemic defects No
Delivery Logistics and on-time delivery No (except when title transfer is at different point than normal for term
Any Intellectual Property Grant language Yes
General Indemnity or hold harmless Yes
Intellectual Property Indemnity & exceptions Yes
Limits of liability Yes
Limits on remedies Yes
Insurance No, but you should involve an insurance expert
Termination No
Amendments to the agreement Yes
Assignment rights No
Choice of law, jurisdiction and forum Yes
Prior communications / merger Yes
Counterparts Yes
Confidential Information Yes
Freedom of action Yes
Force Majeure Yes
Notices Yes
Order of Precedence Yes if other documents will impact how the agreement is interpreted. No if the precedence is established between other documents where the agreement has the ultimate priority
Records & Audit Rights No
Severability of terms Yes
Terms that survive expiration or termination Yes
Waiver of rights Yes

The “Contracting Process”

The "Contracting Process" consists of a number of inter-related activities and tasks. As every company may have their own definition of what they call a contracting process and may define it by tasks performed by different parties, let me define what I consider to be the requirements of a normal contracting process.

1. It starts with a purchase request or form of advance notice of a need for support.:
2. You woork with the requestor to gain an understanding of exactly what is needed.
3. You work with the requestor or subject matter experts to establish requirements by drawings, specifications, scope or statements of work, or requirements documents etc.
4. You identify an initial list of potential qualified suppliers.
5, You perform pre-qualification of determine those suppliers that are best suited to perform the work to establish the the list of suppliers to receive the bid or RFP. .
6. You select of the appropriate contracting approach. (Lump sum, time & materials, individual packages, management contract, unit price, guaranteed maximum, not to exceed, etc.)
7. You determine the supplier selection process (Do you bid, solicit proposals or negotiate?)
8. You prepare the appropriate Contract Documents. This includes: legal terms and conditions; business terms and conditions, specifications; standards or requirements, schedules, performance standards, acceptance & test criteria and requirements for training, support, maintenance.
9. If you bid or solicit proposals you issue and receive of the appropriate bid or proposal documents
10. You perform bid or proposal review and prioritization of alternative suppliers according to your evaluation criteria.
11. You commence negotiation of the agreement and cost.
12. You finalize the agreed terms and perform contract review, approval and execution.
13. You manage the contract mobilization.
14. You manage delivery related activities.
15. You manage performance related activities.
16. You perform administration of contract related activities.
17. You manage the contract file.
18. You manage the conducting appropriate tests & acceptance of the deliverables.
19. You manage changes that occur throughout the process..
20. You negotiate and resolve disputes..
21. You manage the close out of the contract..
22. You manage any warranties.
23. You manage and negotiate any claims
24. If a claim cannot be resolved you work with the business and legal to prepare to pursue or defend against litigation..
.
There is a strong inter-relationship between the process steps. How well you manage the steps leading up to the negotiation will have a significant impact on how successful you will be in the negotiation. How well you manage the pre-qualification and selection process can have a significant impact on how successful you will be in the performance phase. How well you manage the steps after the negotiation will have a significant impact on how successful you will be in achieving the committed performance and maintaining the benefits achieved from the negotiation.How well you manage the creation of the agreement's terms and all the activities after the negotiation
may have a significant impact on how successful you will be in any litigation

Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.

When do you negotiate after receiving a competitive bid or proposal?

That question posed on LinkedIN brought in a lot of comments, both good and bad. I wanted to share my thoughts.

One of the first concerns raised was whether it was ethical or not. The issue of ethics can be resolved by asking one simple question: What expectations did you set? If you set the expectation that there would be no further negotiations and then proceeded to negotiate, that might be unethical. A lot depends upon the circumstances. Is it unethical to approach the low bidder and explain that the price has come in over budget and you need to work with them to help identify ways to reduce the cost? I don’t think so. I don’t think the supplier would see that as unethical.

Procurement should have and use two options. The first option is where you make it clear that what you want is their best offer with no further negotiating. That should be used when you are buying things that are 1.) low cost and 2) low volume and 3) you have well defined specifications. The reason why I recommend it for those situations is you want to manage your time so you can focus on negotiations that will provide a greater return. The negotiation after bid or proposal approach should be used in all other situations. Let me explain why I think that.

First, you need to think about what is actually occurring in a competitive bid process. In every competitive process there Is always an X factor. The X factor is how much does each individual supplier want or need the work. If a Supplier really wants or needs the work, they will work extremely hard on getting the best numbers and they may take less of a return for overhead and profit. If they have plenty of work, they won’t spend as much time working the numbers and what they may provide you is more of a “if I can get it at this price I’ll figure out how to fit it in” type of bid. If they have substantial work and don’t want it, they may simply provide you with what I call a “complimentary bid or proposal”. They will come up with a price that would more than cover the costs and provide a significant profit. They don’t want to win, but they feel they need to respond so they aren’t eliminated from future bids or RFP’s. When it’s a buyer’s market the competitive process will usually get you the best price. When it’s a seller’s market or when you need to deal with a specific supplier it won’t get you the best price and to get the best price you need to negotiate.

Second, where negotiation after bid or proposal really helps is to verify assumptions, requirements, the quality of the design or need for things specified. I wrote a blog on working with supplier to reduce cost and much of that applies here. If all you do is look for your supplier to build or provide you with exactly what you have specified, many will and the cost of that may be far more than you needed to spend. If you negotiate after the bid or proposal you get the benefit of the supplier’s experience in being able to review the design or requirements and question why certain expensive items are specified and whether they are needed. You get the benefit of them being able to look at the product, service or solution and what it would cost them to provide it as it is currently designed and suggest ideas to make it simpler to provide, reduce the amount of labor involved, and improve the quality. If you have a product that is difficult to manufacture you will pay for that in your product cost. The supplier can also look at design from a repair perspective to make sure that its able to be quickly and easily repaired.

If you negotiate after the bid or proposal and only provided a list of functional requirements rather than a complete design, you can work together to understand the need for the requirements. They can identify the costs for certain of the requirements. It allows for sharing of assumptions they included that simply may not apply and could be eliminated with the cost eliminated.

Most important, without the sharing they will go on to produce what you told them to with all the unnecessary costs built in to their cost structure and they will be doing so according to their assumption of what you wanted or needed. Since all those costs are now real to them, your negotiations to reduce the cost will be more difficult. If they can’t change any of those requirements, the cost reduction must come from their profit.

If you have high confidence that your internal design or requirements represent the best, most cost effective solution competitive bidding with no further negotiation may work. If you don’t have that confidence, having negotiations after receiving a bid or proposal helps eliminate the unnecessary costs.


Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.

Negotiation Books (Updated)

In both my book and this blog my focus has been on helping build the knowledge you need to be a better negotiator. I’ve done that because I felt that most of the books and training that I’ve seen focus mostly on negotiation tactics or negotiation strategies. In this post I wanted to share my thoughts on how to wade through the many books available and provide some suggestions.

Since there is negotiation in almost every aspect of life, there are a huge number of books on negotiation. Most materials on negotiations fall into one of seven categories:
1. Tactics
2. Theory
3. Problem Solving
4. Sub-aspects of the Negotiation Process
5. The Buyer’s approach to negotiation
6. The Salesperson approach to negotiation
7. Books that focus on a specific type of negotiation

Here are several tips on making an investment in negotiation books:

Before investing in a negotiation book, do some quick research. Find out how it has been rated on sites like Amazon.com. Then look at the author’s credentials, as that frequently will define what type of book it will be. For example:

1. Individuals with a mediation background frequently write books that have a problem-solving theme. Most of the books from authors tied to the Harvard Program on Negotiation fall into this category and talk about “BATNA’s (best alternative to a negotiated agreement).

2. Most books that focus on the theoretical aspects of negotiations are written by College Professors with a business, or modeling or game theory background.

3. Books that aren’t written by either professional negotiators, negotiation consultants, mediators or professors are usually tactics books that often restate concepts you can learn by reading the Karrass and Cohen books listed below.

4. Books on negotiation by celebrities may be entertaining and can provide a few useful tips but many are more self-promotion than providing the average negotiator with something useful.

5. Individuals with a communication focus frequently write books on the sub-aspects of negotiation such as communication skills or being able to read body language. They may be worth reading.

6. Books with a focus on a specific type of negotiation such as international negotiations may be more focused on providing cultural tips rather than actual negotiations content and may assume that you know the negotiating basics.

Here’s another Tip. If the title has “Theory”, “Art”, “Reasonable”, “Heart”, “Tao”, “Culture”, or “Collaborative” in the title, it’s probably more theory oriented or focused on problem solving. If it has “Power” “Street Smart” or “Bare Knuckle” or “Guerrilla” in the title it will usually be more tactics oriented.

Here’s a third tip. Look at the individuals on the book inside cover who are giving it praise. Find out the type of books they have written and you’ll get an indication of the type of negotiation book it probably will be.

Books on the sales person’s approach to negotiating are limited. Part of what they teach is an understanding how to sell, and if you ever get a chance to read any materials from the Xerox Sales Training course it’s very helpful (your own company may have something similar they use that could be helpful). It provides an understanding what sales people are trained to do in the selling process that is closely linked to negotiations. I believe that Xerox still sells the training to external customers.

Gary Karrass has also written books and has classes on negotiating for salespeople. A book that does a great job of highlighting potential tactics a salesperson may want to use to “win” in their negotiations is “Guerrilla Negotiating, Unconventional Weapons And Tactics To Get You What You Want” by Jay Conrad Levinson, Mark S.A. Smith, and Orvel Ray Wilson. They also wrote “Guerrilla Marketing”. This book is a collection of tools and tactics (some good, some bad and some bordering on ridiculous) that sales people may try to use. Some of the tactics are similar to what you would find in the books on negotiation by Karrass, and Cohen, but it provides new thoughts and insights specifically focused on sales negotiations that are well worth reading. I would suggest you read this book if you want to understand the tactics sales people are being taught, so you’re prepared to spot them when they are used against you and you’re prepared with an appropriate counter. A number of the things they recommend can simply be reversed and be used as a Buyer tactic.

There are very few books that are 100% focused on the Buyer’s side of the negotiations. On Amazon.com I think a total of 5 are listed with Purchasing or Procurement and Negotiation in the title. I haven’t read any of them on that list so I can’t comment on their relative worth.

My complaint on procurement training has always been that the negotiation training for Buyers has always been disjointed with the individual Buyer needing to learn a number of different things from a variety of different sources and be able to pull that together to be a better negotiator. It’s not just about tactics, and all the tactics in the world won’t do you much good if you don’t understand what you are negotiating, what it means, what the risks and costs are, how it can impact you, and then know when and how to use the appropriate strategies and tactics to get you to where you want to go.

I think you first need to know how to negotiate before you learn about using problem solving approaches to negotiations. It takes both parties to want to problem solve and if the opposition isn’t willing to approach the agreement on a problem solving basis, you need the negotiating skills to negotiate with them or help drive them to problem solving.

Here is a list of eight books on negotiation that I recommend reading. Their focus is either about tactics or problem solving. If you’ve already taken a professional course on negotiation I would still suggest reading them if for nothing more than a refresher
1.Getting More: How to Negotiate to Achieve Your Goals in the Real World: Stuart Diamond
2.Give And Take: The Complete Guide to Negotiating Strategies and Tactics: Chester Karrass
3.The Negotiating Game; Chester Karrass
4.You Can Negotiate Anything: Herb Cohen
5. The Economist Pocket Negotiator : Gavin Kennedy
6. Just Say No – Jim Camp

To learn about win-win negotiations I would suggest reading:
NEW:
1.Value Negotiation - How to finally get the win-win right : Horacio Falcao. This textbook
would be especially helpful if you aren't familiar with the concept. It provides the concepts provided in the Fisher and Ury books listed below and but also provides a number of other concepts on how to negotiation and negotiation to provide the reader a road map on Win-Win.

2.Getting to Yes: Negotiating Agreement Without Giving In : Roger Fisher, William Ury
3.Getting Past No: Negotiating Your Way from Confrontation To Cooperation William Ury

These will teach you about tactics and negotiation strategies. To learn the knowledge that makes both tactics and strategies more effective, you can continue to read the blog and buy my book.

Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on Amazon.com. A hotlink to Amazon.com
Is at the top of the post.