Thursday, August 4, 2011

Create Your Scoring Matrix

If you've ever taken a negotiation class or read an MBA negotiation case, you've probably noticed one major difference between a case and the real world.  A typical case provides a scoring matrix that converts any deal into a value that can be compared with other deals.

For example, in the Harvard Business School case, a television production studio negotiates with a local TV station to sell syndication rights for reruns of a popular show.  The central issue is price, but the worksheet in the back of the case also tells you the dollar value of being allowed to do four, six or eight "runs" (essentially how often you can show each episode) and exactly how much to discount cash received in future years.

These matrices are extremely helpful in finding value-creating tradeoffs.  In it costs the production company less (in lost value) to allow eight runs than it gains the TV station (in higher ad revenue), so four or six runs are dominated by eight.  Up front payment also dominates any delayed payment because the production company has a higher discount rate, so it costs them more to delay being paid than the TV station benefits.  (To say term A is dominated by term B means that for any deal with A it is possible to find a deal with term B in which all parties are better off.)  Figuring this out is trivial if the parties share information openly, but isn't hard even if they don't, provided the parties really know what the various options are worth.

Professor Max Bazerman says probably the most common criticism he hears of cases is precisely that in the real world you aren't provided with a scoring matrix.  His response is perfect:
In the real world, it's your job to create your scoring matrix as part of your negotiation prep work.
People often enter negotiations with only a general understanding of their own interests.  If you're contracting an addition to your home it's trivial to know that you'd rather pay less than more, that you'd rather pay later than earlier, that you'd rather have the work finished earlier than later, etc.  That's not enough to answer a question like, "Would I rather pay $50K to have the work done by September or $60 to have it done by June?"

In order to evaluate alternatives you need to know all of your interests and how important each of your interests are to you.  Start by brainstorming and getting a rough sense of priorities, as well as any trigger point.  (For example, if you have a major family reunion planned at your home in September, that may mean that any finish later than August is a deal-breaker.)  Try to formalize your list into a set of utility values that can be offset against each other.  (This is sometimes easier to do when the central factor is money, but even in a non-financial negotiation you should be able to say that X is about +20 and Y is -5.)  Write it down and then test what you've written by comparing your reaction to hypothetical offers to what your scoring system says.  Make sure you know the score value of your BATNA so that in addition to comparing offers A and B you also know whether and by how much each meets your interests better than your no-deal alternative does.

Finally, test your scoring system with other people.  If you're the only stakeholder (e.g. you're single and you're negotiating a job) a friend who knows you well may be able to identify interests you haven't considered or help you see scores that don't mesh with what she knows about you.  If you have lots of stakeholders, this step is even more important because it's not just your scoring system.  The more buy-in you have, the more flexibility you'll have to make value-creating trades and the less chance you'll find that you have to backtrack from what seemed like a promising proposal.

1 comment:

  1. This is somewhat off your main topic, but how can the two companies have different discount rates? If Joe has a higher discount rate than Fred, shouldn't they just forget about the TV show and make a mutually profitable arrangement where Joe borrows some money from Fred? It seems like the only way to have a higher discount rate is to be at risk of bankruptcy within the term of the deal (in which case that default risk is factored into the cost of borrowing). But in that case shouldn't the parties take that default risk into account, offsetting the supposed different in discount rates?