Well, readers, we’ve done it!  We’ve completed the alliance agreement and it’s signed off by both parties.  Time to celebrate! 

Well, yes and no.  Completion of an alliance agreement, especially with an all-new alliance partner, is worthy of celebration.  I am forever charmed by the style with which Japanese companies exhibit themselves at such celebrations.  Of course, sakeʹ is involved, but that’s not my point.  Instead I’m talking about Daruma dolls.

Commonly, at what we Americans would call a “kick-off meeting”, your prospective Japanese business partner will host a dinner at a nice restaurant, during which the sakeʹ and beer (Kirin, Asahi or Sapporo, depending upon your host’s keiretsu affiliation) will flow and toasts will be given.  At some point in the dinner the senior host will produce a Daruma doll – a hollow, red, paper mâché, spherical figure said to represent an ancient Zen Buddhist monk named Bodhidharma. Representing good luck, the Daruma is presented “with both eyes closed”, namely the eyes are blank, white orbs.  The Daruma may be as large as a basketball.  Household Darumas are more sized like a grapefruit.  My own Daruma is about the same size. 

In order to commemorate and to bring good luck to the anticipated alliance, the host will take a pen and fill in a small part of the Daruma’s right eye and pass the doll to the senior member of the other party, who will do the same.  After that, everyone at the table will complete filling in the eye (actually the pupil).  The “one-eye-open” Daruma is to be a daily reminder to everyone of the task at hand.  Upon successful completion of the alliance agreement, another celebratory dinner is held in which the second eye is similarly filled in.  “Both eyes open” in Japanese means “realization of a goal”.  Now, is that classy, or what?

Back to “yes and no”.  One may consider too much celebration to be premature because a finalized agreement is merely a means to an end.  No actual progress toward the objectives of the alliance has been made.  How do we get started?

It is a given that the alliance agreement sets forth the objectives, but these objectives may be slightly nebulous.  Consequently, most agreements establish a Management Committee and a Working Committee, which reports to the Management Committee. 

The agreement typically specifies quarterly meetings for the Management Committee (at alternating sites) and the working committee at least monthly.  As a practical matter, the Working Committee sweats the details and brings specific proposals for proceeding to the Management Committee for approval.  Later on, the Working Committee implements the plans and the Managing committee oversees progress and issues directions.

Sounds pretty organized doesn’t it?  At the outset it is.  The Management Committee will hold their quarterly meetings through at least the first two cycles, having met at each other’s facilities once.  Similarly, the Working Committee will have met regularly, sometimes in person, sometimes by phone.  Quite a bit of preliminary planning and some work will have been accomplished.  However, when the third Management Committee meeting is scheduled, difficulties will arise at settling on a date because of schedule conflicts of the senior members.  This will be a particular problem if the meeting is to be held outside the US — at least for the US members.  The problem will only worsen as time passes because the glow of anticipation will have long cooled for the senior management and the priority of the quarterly meetings will take the back seat to the problem or program du jour.  To be honest, the foregoing speaks more for senior executives of US companies than it does for Japanese companies.  I’d say that Europeans are more like Americans than Japanese when setting their priorities for these crucial relationship-maintaining meetings.  The consequences are that maintenance of the alliance falls on the shoulders of the Working Committee, who are already doing all the work anyway.

The best way to deal with these problems is to start the alliance to work on an objective where early and nearly certain success is assured.  With a success under its belt, the alliance will have begun to form the basis for mutual trust and respect.  Once that storehouse of goodwill begins to fill, alliances can work well with only occasional direct involvement by senior management.  When that point is reached, that is the time to really celebrate.

Previously in the blog about writing the first draft of the agreement, I mentioned that you may uncover some subject matter that failed to be covered in the preceding term sheet discussions.  When negotiations begin, you can be sure that these new terms will get proper discussion.  Also you will be getting your first feedback from the other party on your draft.  There will be plenty of “exciting” discoveries at this point since the other party has now also had the benefit of having carefully reviewed the draft with those in their company who have a stake and with their attorneys.  In fact, their attorney is here now.  Oops, there are two of them.  And you only brought your single attorney. 

Etiquette generally calls for each party to have equal numbers of attorneys.  I’m of the opinion that it doesn’t matter how many attorneys they have.  If I have a strong, experienced attorney with whom I’ve worked previously, they can have five attorneys for all I care.  The two of us (me and our attorney) know each other’s style and have grown to trust and respect each other’s judgment and value each other’s advice.  Besides, if the other side has five attorneys, they will tie themselves up in knots reconciling six different points of view (one of them is bound to be someone who says “on the one hand… and on the other hand…”).

My preference is to do my homework and have a good grasp of the issues and have at my side the aforementioned attorney, a seasoned business manager and, if the subject is technical, the appropriate engineering manager. This is my team.  We have them surrounded.

The first negotiating meeting may not accomplish much more than getting acquainted and exchanging pleasantries.  Maybe there will be an overview response by each party in which emphasis is placed on the areas of agreement and the areas of difference are minimized as “things that need more discussion”.  This ritual is particularly apt when you are in Asia.  Europeans will be more direct and are more likely to give you a useful take on their positions at this first meeting.  In any case, your objective is to either infer areas of disagreement (Asia) or to pay close attention when being politely informed (Europe).  If you’re in the US, you’ll have no doubt where you are before you leave.

However you manage to discover the specifics topics in dispute, it is essential that you and your team write them down and begin an analysis.  Keeping it simple, the first job is to sort the issues into two categories:  “don’t care” and “really care”.  “Don’t care” items are valuable as trading cards.  You can use them as necessary to create good will or resolve more important issues by sweetening the deal.  “Really care” items are something else entirely. Let’s call them core issues.  You will plan your negotiating strategy around them. 

Core issues may be so fundamental that you and your team don’t feel empowered to decide them yourself.  Time to call home and ask your management.  However you decide your attitude about each core issue, you should list them in some logical sequence and construct a negotiating matrix.  A negotiating matrix is composed of three theoretical outcomes for each core issue:  best case, acceptable and walk away.

“Best case” is the most favorable negotiating outcome (from your team’s perspective) for that core item that is plausible under the circumstances.  Generally, this does not mean total victory for you and humiliation for the other side.  “Acceptable” is a range of negotiating outcomes which are tolerable.  “Walk away” is your bottom line, beyond which you will not proceed.  You must genuinely believe that this key point is so important as to threaten to break off negotiations and you must be prepared to do so, even if there are repercussions.  Remember, never, ever, point a gun that is not loaded and which you are not prepared to pull the trigger.  I’ve walked away from a deal and I’m living proof that there is life after breaking off negotiations.  Usually, I’ve found support from my management because the dispute showed the true nature of the other party and we didn’t like what we discovered. 

Oh, by the way.  Don’t let the other party see your matrix.  Lots of people are good at reading print upside down.  Especially sales people.

Two emotions have no place in negotiations:  anger and hubris.  Never allow yourself to become angry.  You may say things you’ll later regret, you may act impulsively and you may poison the negotiations from that point forward.  This not to say that you can’t choose to appear to be angry.  The appearance of anger is a tool in your toolkit that you can choose to use so long as you are certain you’ve made the right decision to use it and if you only rarely resort to it.  It’s not for amateurs.  Regarding hubris, nothing is so off-putting as someone who makes a mistake and doggedly sticks to it to save face.  Willingness to own up to a mistake helps build trust and will facilitate the whole negotiation.

One tactic has no place in negotiations for a business arrangement that will last for a period of time and will depend upon the good faith cooperation of the parties.  That tactic is to go for the jugular when you have the other party in a corner.  If you do use this tactic, you will sow the seeds of failure of the ultimate deal.  I remember a situation while negotiating with a very intelligent, senior manager from an Asian company.  He made a proposal, which, had I accepted, would have lead to a bad outcome for his company and a serious loss of face for him personally.  Instead, I declined his proposal and explained to him how it was not a good idea for his company.  He was shocked, to say the least, because his culture considers not exploiting the weakness of his enemy to be a personal weakness.  He was disarmed by the experience. I found out weeks later through a mutual friend that he knew then to trust and respect me.  I consider that to be an excellent reward for merely playing fair.  Write this down:  Play fair.

It’s my modest, but likely useless, hope that a few (one or two) readers have trudged through my long series on alliances.  But alas, most of the comments I receive are spam, filled with breathless praise and scarcely concealed commercial pitches.  Actually, I’m skeptical of the praise from an enterprising person in Russia who wants to enlarge my penis.

Even so, I hope my few readers hang in there because I want to talk about my favorite subject:  negotiating.   Let’s review how we got to this point.  We learned how to decide whether filling a gap in our company’s capabilities should be filled by an alliance, we’ve discussed what an alliance is, talked about how to package our proposal to woo a prospective partner, how to protect our proprietary information, how to jointly develop trust and to build the outlines of the business terms to reach our goal, how to capture that outline in a term sheet and finally, how to write the initial draft of the agreement.  Now it’s time to rock and roll!

Why am I so enthusiastic about negotiations?  After all, aren’t negotiations contentious and even downright nasty?  Sometimes.  But they don’t have to be that way.  That is, they shouldn’t be that way unless you choose to make them that way.  More on that later.  I prefer to look at negotiations as creative conflict – a constructive process to reach consensus.  Besides, if you stick to the script I have set out in this series, much of the hard work has already been done and the subsequent discussions will be largely on hammering out the details and precise wording. I like negotiating because it is a mental challenge and I get the opportunity to hone my acting skills. 

If one digs down to discover why negotiations sometimes get heated, it results from all of the parties being human and being human, are greedy and selfish.  I know I am.  Human, I mean.  Ah, you say, that’s why we have contracts.  Contracts spell out the rules by which everyone has agreed to abide.  Contracts trump greed and selfishness.  Right…?

 Sad to say, the basic premise of a contract is that all parties will act in good faith and the contract serves to provide guidance to the parties.  Actually, no contract will protect you from a party who is dealing in bad faith.  And sometimes the deterrents (penalties, lawsuits, etc.) built into contracts are nothing when compared to the payoff resulting from deliberately screwing you.  In my experience, most negotiations are largely spent figuring out what happens if things go wrong or if one party defaults. 

In short, you end up having to rely upon the care you used in picking your partner, because choices to behave ethically and honestly rely upon the character of the individuals who run the company.  Companies have cultures and well ingrained traditions but only individuals have ethics and honesty.  Change a few key individuals and you may be dealing with a different company – sometimes “different” in the bad sense of the word.  The modern company’s tendency to turn over key individuals often present the parties with the conundrum of one set of managers making an agreement and a largely different set of executives implementing the deal.  This lack of continuity frequently results in misunderstandings and clashes of personalities because many of those carefully nurtured personal relationships are now scrambled by a new mix of unknown players.

The military has always had to deal with rapid turnover of key decision makers.  Their solution lies in a solid foundation of highly knowledgeable non-commissioned officers –the NCOs.   NCOs are the ones who make things happen in the military and they stay around long enough to provide the continuity so vital to keeping a complex organization on mission.  That is why I always try to structure alliances with an executive committee (the officers) and a working committee (the NCOs).  The EC sets policy and monitors performance and the WC works out the details and makes things happen.  This two-layer structure sounds like unnecessary bureaucracy, but in fact, it is what maintains continuity within the alliance.  Consider it building in fault tolerance.  If there is a weakness to this approach, it’s the fact that the members of the EC are almost impossible to keep engaged and to get together to meet at the agreed-upon intervals – especially if the parties are geographically far apart.  Even more reason to have a strong Working Committee.

You’ll recall that I have emphasized four things about developing an alliance agreement:

1. Concentrate on the business terms and related issues before even considering preparing an initial draft.
2. Always prepare the initial draft yourself (as opposed to letting the other party draft it).
3. The form of the draft should be appropriate to the nature of the business deal.
4. Don’t involve the attorneys until you have drafted the initial agreement.

A caveat to Point #2 above:  DO involve your attorney before disclosing your initial draft of the agreement to the other party and don’t disclose the draft without your attorney’s full agreement.  This is the time to be very scrupulous in everything you write and say.  This same caveat applies to each and every agreement revision exchanged during negotiations.

OK, what do I mean about “the form of the agreement?”  This refers to the obvious fact that certain deals emphasize different topics in the spectrum of business and legal terms.  For example, a brand license emphasizes the specific uses of a brand and the explicit exclusion of all other uses.  It also makes sure the licensor (owner) has absolute control over the appearance of the brand mark (trademark).  Failure to strictly follow these rules usually results in termination of the license and destruction of all non-compliant object (products, packaging, ads, etc.).  Why so strict?  The brand owners also own the “brand equity” in their brand and anything the licensor (you) does that sheds a bad light on the brand diminishes the brand equity.  No fooling.  Rebuilding brand equity costs real money, if it’s possible at all.

Another example. Let’s say you agree to supply another company who is going to offer a new satellite-based set of services to automobile manufacturers (“OEMs”) and your company is initially their sole source of satellite receiver hardware.  If your customer succeeds in selling a product program to an OEM, you’ll discover one of the major no-nos in the business world is to delay, or worse yet, interrupt an OEM’s production program.  Your customer is very anxious to avoid this calamity but he is held hostage to the fact that you are the sole source in the universe of his hardware.  White knuckle time until he gets to add a second source.  Therefore, the negotiations of the agreement will spend a disproportionate amount of time and verbiage covering what happens if there are delays or interruptions in your supplying your customer.

One final example.  Your customer is asking you to develop a new product that relies in part on product technology you already have (background IP) and new technology whose development is specified and funded by your customer (foreground IP).  The major issue will be who owns the foreground IP that is at the heart of the new product’s features and functions?  In brief, if one pays for something, they own it.  The same applies to foreground IP in this case.  But wait!  The ability to practice (use) the foreground IP depends upon the customer being able to use of the background IP that you already own.  This is a real conundrum.  The good news is that there are a variety of solutions that are fair to both parties.  Delineating the chosen solution will become the central issue of your agreement and all other terms are necessary, but secondary in importance.   If you’re still with me at this point, “What’s the solution?”  you ask.  I’m afraid that the answer is, “It depends” an in any case, something I generally don’t talk about for free.

Let’s assume that you are steeped enough in the details of the detail that you already know what agreement structure is appropriate.  The following steps are crucial for your own credibility and for the long term success in finalizing the deal.  As the drafter of the initial draft it is incumbent upon you to faithfully map the term sheet into the formal text of the draft agreement.  This means that you must be able to find each and every point of the term sheet in the draft.  However, you will quickly find that some of the term sheet items were awkwardly worded or should be combined with another term.  No sense in perpetuating bad language.  Go ahead and make appropriate changes.  Just be sure that the other party understands what you’ve done.  I guarantee that as you try to organize the terms into a logical structure you will find a gaping hole in the whole set of terms.  The best response would be for you to insert proposed language to fill the gap  and to highlight it for the benefit of the other party. 

One final subject to cover while we’re at it.  Why are there long sections of fine print in agreements even for very simple transactions?  Most of the fine print represents the result of decades of litigation that were decided by the very issue a section of fine print concerns and is typically memorialized in the Uniform Commercial Code (UCC) as case law.  The UCC generally governs commercial transactions in the US.  Even though these standard terms are bothersome, they serve you well in the case of litigation.  The lack of an equivalent to the UCC in emerging commercial powerhouses like Russia and China make contracts very hard to agree upon, much less enforce, in those countries.  The result is that doing business in these environments is riskier and overall economic development of such countries is hindered. 

The last step before handing over the initial draft to the other party is to give your attorney a copy of the term sheet (if you’ve not already done so) and a copy of the draft.  Give him/her the chance to read both documents and to ask questions.  Sometimes the attorney will want to make changes.  You are responsible for determining whether the changes are consistent with the intent of the parties.  If not, you should explain the situation to your attorney.  As a general rule, if the term in question is strictly business you should feel free to decide on your own the wisdom of making changes (often I benefit from taking good advice from an educated third party).  If your attorney stands fast, you are obliged to get your management involved.  In any case, never give a draft to the other party without a thorough vetting by your attorney and your management.  The same applies to each subsequent iteration of the document.

You’ll recall in my last blog I expounded on having discussions about an alliance with your “feet  on the table” (an Americanism for “informal discussions”).  This process helps the parties become more personally acquainted and also begins the process of developing an outline of the various important parameters of the deal.  In my business I direct the parties toward capturing these parameters in writing in a term sheet.  A “term sheet” is an informal and non-binding (at least not intentionally binding) compilation of business terms of the contemplated deal either in bullet chart form or in prose without any legalese.  Additionally, the term sheet is deliberately not complete enough to be written directly into a binding agreement because many of the key details needs to be developed with the participation of each party’s legal counsel.   However, the chief advantage of a term sheet is that the essential framework of an agreement can be developed by the business people without the constant diversion inevitably inserted by attorneys.  In short, no lawyers take part in this activity.

A term sheet differs little from a letter of  intent (LOI), except that an LOI is usually in the format of a letter.  Don’t even try to figure out  whether there is a difference between an LOI and a Memorandum of Understanding (MOU).  In my mind they are the same, but others disagree.  In any case, I do not favor using the LOI or MOU format because they require extra work and offer no advantage  over a term sheet.  However, non-US companies frequently insist upon developing an LOI or MOU because they consider them to be customary.  “Customary” in this case means “ceremonial” and is considered to be a symbol of sincerity of the parties, even if non-binding.  For these reasons, it is wise to comply with that party’s wishes for the sake of goodwill and trust.

Recapping, a term sheet is an efficient way to begin the formalities of developing an agreement by focusing upon the business parameters first and delaying deciding on the legal form of the agreement.   It is simply amazing how often inexperienced companies begin the process by asking one of their lawyers to draft up an agreement.   This puts the lawyer in a real bind because he/she hasn’t been privvy to prior discussions and is relatively clueless about the intent of the parties.  Most lawyers are also averse to be put into a postion where they may be seen as making business decisions instead of the business managers.   Worse yet, the structure of the agreement, by necessity, is dictated by the nature of the business terms, not vice versa.   As said by Louis Sullivan (an American architect), “Form follows function”.

In my consulting practice, I get the parties to fill in  a  template of a term sheet.  The template consists of five sections, four of which are mandatory and the fifth is used in certain cases:

1. Purpose for working together
2. Boundary conditions for the proposed  business relationship
3. The roles of the parties under the proposed business relationship, both individual roles and joint roles
4. The expectations of each party for participating in the proposed relationship
5. The time boundaries or constraints (optional)

Reasons for working together

Generally, this section lays out project objectives, both party’s needs, describes each party’s strengths and abilities and theorizes on how the combination of these assets will result in both companies solving a business problem or in acquiring some competitive benefit.  Remembering that I ask each company to do their best to fill out my template term sheet on their own, you would be fascinated to observe the reactions when the companies exchange drafts.  Their reactions are generally an amalgam of surprise, pleasure and consternation to learn how another company views their company.  More to the point, this section is the introduction to the discovery process in which both companies will learn where their vectors (cultures and business interests) align and, most importantly, where they do not.

Boundary Conditions

This section may, at first, be counter intuitive; however, it is essential to draw a  bright line around the proposed relationship.  This need is partly driven by the fact that it is common for the two companies to compete against each other in some manner.  In fact, part of the basic rationale for working together is the existence of complementary skills, distribution channels, market segments or whatever; drove the two parties together in the first place.  Even more significantly, there are also situations where the two companies are head-to-head competitors and the need to be precise about the nature of the cooperation is driven by antitrust considerations.  Briefly, the law is interested in whether the two companies represent a significant combined  market share. (Forget about trying to get an answer to what is “significant” from the Feds.  As a practical matter, a combined market share of ten percent is not significant.)  If the answer is “yes”, the companies are permitted to cooperate if the work is “pre-competitive”.  That is, the companies are working together to set industry standards, sharing resources to investigate basic research subjects, participate in an industry-wide consortium where all parties may participate and so on.  Finally, it is useful to both companies to be able to understand clearly what is relevant to the agreement and what is off-limits.

Roles of the Parties

This section forces the parties to think hard and in considerable detail about the various tasks each of them are signing up to do to accomplish the purposes set out in Section One.  This involves both joint and internal discussions.  After thinking it through, each party attempts to articulate in writing the role their company can play and also what joint roles they can imagine both need to do.  I usually give each company a pass on speculating what the other company’s roles are.  Many companies are a bit offended when the other company attempts to assign them their roles.  However, once the parties exchange lists of proposed individual and joint roles, they are then compelled to reconcile the task lists.  One or both of them must be assigned all of the identified tasks.   Needless to say, this takes time.  However, my experience is that this exercise marks the point where some good progress is made in learning how to work together.

Expectations of the Parties

This section is not for the faint of heart.  In my opinion, this section is where the rubber meets the road (self-explanatory Americanism).  In other sources, you may read of this section as being the “gives and gets” of the deal. The outcome of developing this section determines whether or not the agreement will go forward.     If the parties honestly and candidly express what they are willing to contribute (funds, resources, manpower, technology, etc.), things they are not willing to consider (if necessary) and what they want in return (access to customers or markets, technology, funds, etc.); the more certain they can be that each party’s explicit and hidden agendas are fully disclosed.  This the time to discover and to openly discuss the subjects that are genuine sources of contention.  Better now than later, because if the tough issues are avoided, then entering an agreement without an acknowledgement of and solution to the problems is like applying paint to rotten wood.  Better to part friends now than to endure a disaster at a future time you cannot foresee or choose.  The goal of this section is to converge on a single written statement of the objectives of the parties to which each party can subscribe.

Time Horizon

In certain situations, the element of time is important — either in terms of the timing necessary for the parties to benefit, time before funding expires or simply necessary to provide incentive for the parties to apply themselves diligently.  This section can also be used to state whether follow-on activities are contemplated if this endeavour succeeds.

The end product of this term sheet exercise is a four or five page document which each of the parties can state with certainty, represents their joint vision of most of the important business terms.  An important part of the exercise is the effort to converge their divergent visions.  Just as importantly, the document serves as a succinct summary of the deal for the education and understanding of each party’s management team and stakeholders.  If the term sheet is generally judged acceptable, the terms of the deal has been vetted by both parties.  This the go-ahead from their respective organizations to produce a formal agreement that stays faithful to the term sheet.

The next step is to produce an initial draft of the formal agreement.  I always volunteer to write the draft since subsequent negotiations will be based on a document representing my perspective.

My last blog ended on a low note.  I visualized a situation where, despite the best of intentions and a set of solid facts, you struck out.  The candidate partner turned you down.  Actually, this is a frequent result and one learns to use the experience as a learning opportunity.  Did you make errors?  Was your proposal based on a wrong set of assumptions about the candidate?  Chances are good that the latter explanation was involved to one degree or another.

In my experience, the receptivity of a candidate to a business proposal is directly related to the history of the relationship between your company and the candidate’s.  This makes sense.  If you have no prior relationship (that is, no history) then you would have been forced to rely upon publicly available information and whatever tidbits you might have picked up as a participant in that particular business sector.  You are intelligent and fully capable of making informed guesses about the needs and wants of a candidate based on this information.  But boil it all down and you will realize that even informed guesses remain what they are:  guesses. 

What‘s the lesson?  Try to select candidates with whom you have history or, at a minimum, have a personal relationship with a key decision maker in the candidate’s hierarchy.  Without a history, you are making the salesman’s equivalent of a cold call.  The currency of trade in the specialty of alliances is credibility.  Credibility is earned, not granted.  And just like a checking account, you are spending your credibility when you make a proposal to a candidate.  If your credibility account is small, you may end up broke with nothing to show for it.  Spend your credibility wisely.

One way to conserve credibility and perhaps add to your account is to initially propose ideas that have a high probability of success – that is, if you have the luxuries of time and opportunity to choose to do so.  Nothing builds trust like success.  During the phases of the implementation of the idea, you will form personal relationships and acquire valuable insights into what really matters to the candidate company.  Just as importantly, you will learn the culture and the language of the candidate.  Not much different than anthropology.  In time, the candidate morphs into a business ally. 

In time, you will be able to rely less upon guesses and more upon facts you have personally vetted when making proposals for follow-on projects to the new ally.  These projects can be more ambitious, have a larger degree of risk but, at the same time, have bigger payoffs for both companies. 

The very best possible outcome of your proposal to the candidate is agreement that the proposal is directionally correct but needs inputs to reflect the particular perspective of your new ally.  This decision leads to my favorite part of the process:  “feet on the table” discussions.

“Feet on the table” simply means informal and flexibly formatted discussions about your proposal.  The trick is to get key representatives of the necessary business functions from both companies in one room and to insulate them from outside distractions (good luck on that).  If the proposal is technology and/or  product related, “key representatives” generally means the business manager for the relevant product line, the chief engineer or technical lead, a finance person, perhaps a purchasing person and of course, you and your counterpart.  No more than eight or nine people.  No lawyers.  Lawyers have their role in the process, but not during the phase when technical and business issues are being discussed.  The output of these discussions will be captured in a term sheet, the structure of which will be the subject of my next blog.

OK class, back to the discussion on alliances.  We’ve learned how alliances can be used to create a sustainable competitive advantage.  We’ve discovered how the notion of teaming springs from the process of developing a strategy in which a critical gap is  identified but solutions are not readily found in your company due to financing, time, resources or a multitude of other constraints.  We’ve discussed selecting a potential alliance partner.  Finally, we’ve talked about confidentiality agreements as a way to reduce the risks of losing control of competition-sensitive information.  Looks like we are now ready to discuss starting to structure an alliance.

Nor surprisingly, getting started is one of the hardest tasks –but perhaps for reasons you might not think.  Remember, a key step was the realization that your company had identified a need and that the chosen strategy to fill that need was to team with another company.  You’ve even gone to the effort to identify a candidate alliance partner to approach with a business proposal.

At this point, you have some hard conceptual work to do.  It is one thing to identify the target (the goal and the candidate) at 50,000 feet and another matter entirely to be able to articulate your plans in a way that it is clear to the management of your company (and the management of the candidate company) how working together is logical and will be a win-win proposition for both companies.  

Resolving this conundrum begins with putting your specific objectives into a short one or two paragraph written synopsis ( the “what”).  Then go through a similar process to justify the selection of the target partner (the “who”).  The artificial constraint of confining oneself to one or two paragraphs for the what and the who has at least two specific benefits: First, one is forced to distill broad concepts into short sets of declarative statements.  (This is hard, believe me.) Second, brevity and conciseness is the only way you will have a chance to get key decision makers in your company to pay attention long enough to engage themselves in what eventually could be a turning point in the future course of your company.  This latter activity is the necessary “buy-in” from your management before you make the first contact with the target company. 

Once you are assured of your company’s backing, the next job is to figure out how to get the proposal to the right people in the candidate company.  Ideally, the whole proposal should be informally shared with a person whom you know at the target company and who has a position of enough authority to act as a sponsor for you to present the proposal formally to the candidate company.  Be sure you give your sponsor as many details of your proposal as you think will be needed to sell the notion to his /her management.  In short, by the time you actually make your proposal, the audience should already know all of your proposal’s key details and many of the minor details. No surprises allowed.

By no means make the mistake of thinking that by having “greased the skids” you have maximized your chances for a favorable response.  There are just too many variables that are not within your power to control.  Perhaps the candidate company is coming off of a bad quarter or half and they are considering narrowing down their business to focus on their core products.  Perhaps one of the key decision makers previously worked for a competitor of your company and just doesn’t like or trust your company.  Maybe the proposal threatens them in some way – for instance, giving your company the opportunity to become a competitor.  Or perhaps it’s a case of the right idea at the wrong time.  If so, you many never get a straight answer.  A delaying tactic is to cause you to give up on the candidate without the candidate having to actually say “no”.

We all are faced with situations where we feel thwarted due to the lack of vision, bureaucratic gridlocks, secret agendas or just plain ineptitude of people who don’t share our passion for an idea.  Have you ever said to yourself (or out loud) “If I were king of the world I’d …..”?  You fill in the blanks.  Truth is, good guys don’t always win and file drawers are overflowing with ideas that never got a proper hearing.  Get over it and start looking for the next windmill at which to tilt.  You’ll feel better in the morning.

Today’s blog is a continuation of my blog of April 7, 2010.  In that blog I mentioned non-disclosure agreements.  I promised to discuss them because they are such a central requirement to the beginning a business relationship. 

Requiring another party to sign a non-disclosure agreement (“NDA” or sometimes “Confidentiality Agreement or “CA”) is not a sign of distrust, rather it is notice to the other party that your information is important to you and you do not wish the information disclosed to third parties except under rules you specify.  Such information is routinely lumped into the category of “confidential information” or “proprietary information”. Not all sensitive information is confidential or proprietary. An NDA will always contain a recitation in which the term “confidential information” is limited to information that is not:

“… information which (i) prior to the receiving party’s receipt thereof was publicly available or in the receiving party’s possession from a source other than the disclosing party, or (ii) after the receiving party’s receipt thereof becomes publicly available other than as a consequence of a breach of the receiving party’s obligations hereunder, or (iii) is rightfully acquired by the receiving party without a confidentiality obligation from a third party who is under no obligation to the disclosing party to maintain the confidentiality of the information, or (iv) is independently developed by the receiving party or (v) is required to be disclosed pursuant to a subpoena or similar order from a court, agency or other similar authority, provided that the receiving party required to disclose such information gives to the providing party as much notice as is reasonably practicable and allows the providing party as much opportunity as is reasonably practicable to defend against such subpoena or order.”

An NDA can either be one-way (Party A discloses to party B) or mutual (Parties A and B exchange confidential information) will typically establish four specific points: 

1. The names and addresses of the parties to the NDA
2. The purpose for disclosure of confidential information
3. The general nature of the confidential information to be disclosed (or exchanged)
4. The rules for managing the divulged confidential information.  These rules generally cover such subjects as who can access the information (usually those with a need to know), the standards of care for keeping the information confidential,  the period of time during which the recipient agrees not to allow the disclosure of the information to third parties and the period of time during which the parties agree to exchange information under the NDA. 

How does one know which information is confidential?  Unfortunately, that question resists a definitive answer.  For instance engineers tend to be casual about information, especially when talking to a peer, and lawyers tend to think everything is confidential.  I expect that many will take serious exception to my previous statement.

In my defense, engineers like to be admired and respected by other engineers, so they tend to talk too much – even to people outside the company.  In addition, engineers gemerally believe that they do not personally have enough information for someone to deduce the whole story.  Wrong!  The whole story can be gathered from bits and pieces of public information and from other like-minded engineers.

In regard to lawyers, inexperienced lawyers tend to believe that nothing wrong can happen if one simply says “no”.  Furthermore, if they have a weak grasp of the subject, they will want to circle the wagons in an excess of caution.  By the way, experienced lawyers are much more reasonable in this regard.

Honestly, the worst leaks of confidential information I have witnessed have come from senior executives.  They too, like to impress their peers.  Worse yet, they feel empowered to exercise their own judgment about whether to adhere to the terms of an NDA.  In other words, they see themselves as being above certain legal agreements if they consider it important enough.

While we’re at it, let’s also dispel a frequent misconception.  Let’s say a lower level employee unwisely signs an NDA that applies to his entire company.  Now we all know that this employee is not authorized to make binding commitments for the company.  So the NDA isn’t valid, right?  Wrong.  There is a principle of law called “implied authority”.  Briefly, it states that if the other party to the NDA believed this low level employee was authorized to sign the NDA, even though common sense said otherwise, the NDA is binding and the company is liable for breach of the NDA.

The consequences of breach can be severe, depending upon the type of damages that are endured by the discloser.  We’re talking about lots of money to settle a lawsuit, even far in excess of the actual damages if punitive damages are awarded by a court.  That’s why companies should be reluctant to voluntarily assume the liability of receiving confidential information under an NDA.  It’s better to take a hard line stance that an NDA won’t be signed unless good cause is demonstrated by the disclosing company and then, only if a senior executive of the receiving company agrees to sign the agreement.

For example, it is common to be approached by a small company concerning a new technology they’ve developed.  However, they say they won’t talk about it unless you sign an NDA.  The proper response should be that an NDA will not be signed unless the small company discloses enough non-confidential information to justify proceeding to fuller disclosure under an NDA.  I never encountered a situation where a small company refused to do so.  It’s just common sense.

A final comment.  An NDA is a single purpose document.  It exists only to cover the exchange of confidential information.  No other unrelated terms should be included.  Such unrelated terms should be included into a separate agreement (assumed to be an alliance agreement in our example).  Often such agreement will reference the NDA and may include it as an appendix or attachment, thereby formally incorporating the NDA into the overall agreement.

If you have not read the immediately previous blog on this subject, I suggest you start there, since today’s blog resumes where the earlier left off.

OK, to recap, your company has identified a gap and characterized its various dimensions and guided by that analysis, has identified a potential business alliance partner who might be interested in exploring doing joint development on biomass conversion to ethanol.  At first glance, the effort to thoroughly do your homework has paid off.  And it has.  However, now that a potential alliance partner candidate has been specifically identified, it is time to change our focus.  We now need to attempt to see our scenario from the perspective of the candidate.

First, the logic that led you to select the candidate may not seem logical at all to the candidate.  For instance, perhaps the candidate is closer to the ultimate goal of productionizing the biomass conversion process and has no need of a partner.  On the contrary, they emphatically want to have the market exclusively to themselves – at least to the extent that the picket fence of patents they have filed (and will be filing) in the US and the EU can protect them.  Or perhaps the candidate is interested, at least in the abstract, in joint development as a leveraging strategy to acquire this valuable new technology but for competitive or political reasons, they would not entertain the notion of allying with your company.  I have encountered both reactions in my career.  It’s a real bummer because it is easy to succumb to the belief that the candidate sees the world the same way you do.  And besides, it’s insulting and embarrassing to be rejected. 

For the sake of continuing this discussion, let’s assume that the candidate is open to discussion of entering into a joint development agreement (JDA).  Your earlier effort to characterize your objectives and needs can pay off at this juncture because you are prepared to explain in clear language the nature of the opportunity.  However, disclosing such sensitive information requires a leap of faith on your part and you should limit your disclosures to the candidate to non-confidential information until a well-crafted non-disclosure agreement (NDA) between your company and the candidate is in place.  Be ever mindful to disclose only relevant details and even then, as few as necessary to have fruitful discussions.  [One of these days I’ll devote a blog or two on NDAs.]

 After your data dump to the candidate under the NDA, it is then reasonable to ask the candidate to express its level of interest after hearing these details.  After doing these presentations for over twenty years, I usually know what the answer will be before I ask.  The candidate’s questions, their tone of voice and body language will telegraph their thinking – that is, if they are Americans or Western Europeans.  Chinese, Japanese and Koreans have fundamentally different, but individually unique, methods of non-verbally expressing themselves. Therefore, one needs to learn these differences well enough to be effective in such circumstances.  

Your next step is to request the candidate prepare a response in which the candidate maps your needs and wants against their own.  This is an essential early glimpse of the task ahead: namely, to discover where your needs are congruent and where they are in conflict.  This response also marks the beginning of the negotiation process.  You can expect that the candidate (correctly) views you as a suitor, and therefore, in a weaker position.  You needn’t waste your breath trying to convince the candidate otherwise.  Just deal with it and keep in mind the candidate’s position will be rooted in this belief.  My own personal philosophy is to never concede a weakness and to negotiate as if both parties are equals. Nevertheless, under these circumstances the candidate will frequently try to shift most of the risk to your company and most of the benefits to itself.  Although this is not unethical, it’s not good business because unless the risk and rewards are reasonably balanced for both parties (commensurate with each party’s contributions), the alliance will have a high probability of failure.  Also, it is a poor negotiating strategy to start with an extreme position. 

Summarizing, a successful start of negotiations of an alliance agreement should be mindful of the following principles:

1. Your company should develop of a well thought out position on your specific needs and wants before contacting the candidate alliance partner.
2. The emphasis should be on clear and candid communication of these needs and wants to the candidate without disclosing more than absolutely necessary.
3. Insist that the candidate be as thorough and candid in preparing its own analysis of its needs and wants and in responding constructively with highlights of the areas of congruence and incongruence of the two parties’ positions.
4. Try to imagine the other party’s point of view so that you can better understand their behavior and position.
5. Be mindful that the ultimate goal is to form an agreement in which the risks and rewards are fairly apportioned.
6. An imbalance in favor of one of the parties will cause resentment and distrust and will likely result in a failed alliance

As I stated earlier, the notion of military, political and economic alliances is not new.  For example, think of NATO, the UN and the European Union, in that order.  Further back in time (1271), the Hanseatic League (from the German hanse meaning “association” or “company”) was formed in Germany to provide a modicum of order and safety to the growing city-to-city trade routes that were developing as Europe emerged from the Dark Ages.  Eventually the League grew to include 150 to 200 cities (including London) until being disbanded in the 17^th century. 

The notion of forming business alliances is not much of a stretch of imagination when one considers the uneven distribution of core competencies (see my last blog) of companies in the same business.  The trick, however, has been how to team with a company having complementary strengths to your gaps and vice versa without strengthening or creating a competitor.  The preferred solution to this conundrum has been to seek out companies who fit the bill but who are in different businesses.  This approach, while attractive, winnows down the alliance candidates to a precious few; because the chances of finding two companies whose interests are perfectly congruent with yours, yet not likely to clash in the marketplace, are rather slim.  Further, if your company’s horizons don’t include considering companies in other countries, then your company may not be a candidate for using alliances as a competitive strategy.

Whether to seek an alliance partner is largely a matter of motivation to get over the conceptual hump.  Many companies are skilled practitioners of this business strategy and devote the money and resources to maintain alliances they have formed.  In my personal experience, I admire pharmaceutical giant Eli Lilly for their skill and commitment to forming and maintain alliances.  However, in the pharma industry, B to B alliance formation (and joint ventures) is very common.

What “conceptual hump”?  In short, the “hump” is knowing where to start.  Another hump is how to form an alliance,  but relax, we’ll get to that.  Pay attention class, you start by identifying the need or gap you have that needs to be filled.  Not only do you need to be able to concisely and coherently articulate this need (the “what”) but also its dimensions:  when, how much and where. 

To illustrate, let’s assume your company is in renewable energy.  Ethanol, for instance.  It’s not adequate to just determine you need help in learning to convert biomass other than corn, into ethanol.  When do you need this capability? If you’ve discovered (like everyone else by now) that there just isn’t enough corn to be had in quantities to make ethanol production meaningful – at least compared to the size of the demand for mobile energy – then the answer is “right away”.  How much help do you need?  Let’s assume that your company can make laboratory quantities of ethanol from switchgrass in a bioreactor, but can’t scale the process to production quantities at acceptable yields to make it economically feasible.  Where do you need this capability?  Let’s assume you are focused on the North American market, primarily the US and Canada.  If you had said “Brazil”, I’d say that you were working on the right problem but that you already had a robust feedstock in sugarcane (compared to corn) and that your timeframe was intermediate – five to ten years.  In the mean time, you are converting the crushed cane stalk (biomass) residue into energy by burning them for your distillation process. 

OK, the good news is that even though needing something right now is a lot more expensive than needing it in the medium term, you have a basic competency in the technology for biomass conversion, albeit only in the laboratory.  That somewhat simplifies the solution because some companies are beginning to learn how to make the transition from laboratory to bulk product with economical yields.  Access to that technology is, in theory, available for a price through licensing and technical assistance.  More accurately, there are companies with a lead in this key technology, but have not necessary crossed the goal line themselves.  Such companies may be open to a jointly funded joint development agreement (JDA) to cut their own costs and risks and speed time to market.  Better yet, one of these companies may have been looking for a way to establish a foothold in North America and a JDA with your company may be the key.  A marriage made in heaven!  Halleluiah!

Get real.  We’ll explore the pitfalls next time.