What is Contract Negotiation Strategy and How to Create Your Best First Draft

September 7, 2021
Here’s a conceptual framework for how companies negotiate business contracts, and how effective contract management makes you a better negotiator.

Courses on corporate law and operations can provide useful analytical frameworks for attorneys and procurement professionals, respectively, but they generally don’t teach anything about one of the most fundamental parts of business: negotiation.

Law school teaches students what constitutes a contract, but there’s often little in the way of structured negotiation training. Business law classes focus on corporate legal structures, court cases, and regulations.

Aside from some workshops and the occasional clinical course, lawyers and other business professionals typically have to develop contract negotiation skills on the job. However, you don’t want to wait until you’re trying to make real business deals before you start developing those crucial business skills.

We’re here to help. Here’s a conceptual framework for how companies negotiate business contracts, and how effective contract management makes you a better negotiator. In particular, we’ll look at how to get the most out of negotiation by starting each contract with an optimal first draft.

What is contract negotiation?

While businesses must negotiate and manage a spectrum of agreements ranging from vendor contracts to employment contracts, we’ll focus here on agreements between businesses.

Contract negotiation is the process by which two or more businesses reach an agreement for the provision of specific goods or services on terms that are mutually beneficial for all parties involved.

Organizations often develop certain types of expertise and even proprietary tools in-house, but the more specialized the expertise or functionality required and the further removed it is from a company’s core business, the more cost-effective it becomes to outsource the provision of that product or service.

For example, a small startup might start out using spreadsheets to keep its books of account when it has only a few paying customers. As it grows, the startup might move to self-service accounting software and eventually hire an accounting firm. Contract negotiation helps to ensure that those business relationships meet the needs of both the startup, as a buyer, and the accounting software provider or the accounting services provider, as a seller.

The negotiation typically starts with one party approaching the other with a business proposal of some sort. A vendor might deliver an unsolicited pitch for its products or services to a business that appears to fit its customer base. Alternatively, a business that has identified a need that it can’t fulfill internally might put out a request for proposals, to which vendors can respond with competing offers.

After an initial discussion, if both parties are interested in pursuing the business relationship, one party will create a first draft of a contract encapsulating the general terms they’ve discussed up to that point. The other party will usually respond with its own version of the agreement, edited or marked up to reflect its own business needs.

This revision can entail adding provisions, altering certain clauses, or removing sections altogether. Over the course of a series of edits and counter offers, the parties define and document a set of terms and conditions governing their business arrangement. If and when the parties reach a consensus, each party signs the agreement to indicate its acceptance of the negotiated terms.

Key objectives during contract negotiations

There are two main reasons why business contracts exist.

First, the parties need to define the nature of their business relationship, specify deliverables (from the vendor) and compensation (from the buyer), and set out measurable milestones. If a business hires a caterer for an event, for instance, the parties need to agree on what the caterer will make, when and where it will provide food and beverages, what level of service it will provide in addition to the food, and when that transaction will be considered complete.

Second, each business will seek to mitigate its own exposure to risks arising from the transaction. For example, consider a contract for the provision of computer chips to a car company. Both companies face operational risks stemming from potential disruptions to the supply chain.

The car company will want reassurance that the chip vendor will make every reasonable effort to continue to supply those chips or a viable alternative so that the car company can continue to make and sell cars. The chip supplier, meanwhile, will need to know that it won’t be held liable if events beyond its control–such as a global pandemic or a ship getting stuck in a canal–impede its ability to follow through on that obligation.

Accordingly, the shared objective of the parties in a contract negotiation should be to set attainable goals while offering each party reasonable protection, ideally setting up a win-win long-term relationship.

How do I negotiate a contract?

Preparing for negotiation starts with an assessment of where your business is now, what it needs from a potential relationship with a partner, vendor, or customer, as applicable, and what you’re in a position to provide for the other party in exchange for what they’re offering.

The first phase of the negotiation process might entail internal negotiations with other stakeholders around the business. Teams from adjacent departments such as sales and finance have their own concerns that they need addressed in any contracts with third parties.

You don’t want to get to the first negotiation session with representatives from the other business and realize that you aren’t on the same page as your colleagues from other teams.

Other aspects of preparation might include assessing your budget for legal fees and balancing existing in-house expertise against that available budget and other risk factors in order to identify your ideal prospects and parameters. This step can help negotiators to determine in advance when it’s time to walk away from a negotiation because a counterparty is demanding more than they’re providing in value.

Once you know what the different parts of your business require in a contract, and the difference between need-to-have and nice-to-have provisions, you can move on to negotiating with the other business.

There are entire courses and books dedicated to business negotiation strategies, so a comprehensive overview of potential negotiation tactics is beyond the scope of this post. However, two key things to keep in mind are how much information you can share with the other party, and who is responsible for what.

When you’re negotiating from a position of trust, it becomes easier to share information about what you really need from the relationship so that you and your counterparts can work together to increase the size of the pie. When you don’t share that trust, conversely, you run the risk that the other side might use any information you share as leverage against you.

As a result, it’s important to judge where you stand with respect to the other party, how much information you can share with them, and whether you value the business relationship enough to tolerate a certain amount of “hardball” negotiation on their part–and, for that matter, whether you’ll take a collaborative or hard-driving approach yourself.

Regarding responsibility, it’s important to know who has authority to approve changes and implement new language or other accommodations in response to the other party’s requests.

The more cooks there are in the kitchen, the more likely that the negotiation will get bogged down by internal disagreement. This is where preparation helps: if you’ve established up front what each stakeholder within your business needs, you can agree ahead of time on a range of parameters you’re all willing to accept.

Contract management and negotiation

Getting your shared information and your assignment of roles right requires effective contract management. An important negotiation shouldn’t be derailed by a party struggling to find the information it needs about its own business, or internal disputes regarding what to put in the agreement. Good contract management will facilitate two other practices that are essential to contract negotiation: knowledge management and process management.

Knowledge management

The business world in general is gaining greater appreciation for good knowledge management practices in the era of big data, but they’re especially important in the context of contracts. After all, knowledge management typically entails documenting the institutional knowledge that an organization’s employees have collectively generated, and a contract is a document created to store and serve as a reference regarding information about the business and its dealings with other businesses.

Centralizing contract management in a secure, accessible location is key to effective knowledge management. It’s easier than ever to digitize your business’s contract portfolio by adopting cloud-based contract management software. If you haven’t yet, it’s time to leave email inboxes and spreadsheets behind as your primary contract management tools. With all of your agreements in one place, you can establish a single source of truth for your business’s contractual rights and obligations.

Effective knowledge management entails more than just storing information in one place, though. If you’re managing hundreds or thousands of contracts, you’ll still be stuck reviewing them manually if you put them in a storage platform that doesn’t offer smart tools to help you make sense of them.

Artificial intelligence (AI) supercharges a contract management system by providing insight into what your contracts actually say. A system that leverages AI and machine learning can help you by taking all of the unstructured data in your contracts and turning it into searchable, structured data, much like a search engine does with the content located across the internet.

AI empowers legal and business teams to move beyond slow, line-by-line review of individual contracts and clauses and instead develop a holistic view of the body of information stored across the business’s entire contract portfolio.

Don’t just digitize. Data-tize.

Process management

Once you have a comprehensive knowledge management system in place to turn your contract portfolio into a contract database, you need to streamline your contract drafting workflows. Standardized, efficient contract drafting processes ensure that the negotiations won’t be held up on account of miscommunication or confusion regarding who has the ball, so to speak. AI can streamline contract drafting by using natural language processing to speed up the creation of templates based on the business’s existing commercial agreements.

The benefits of AI don’t stop there. At Evisort, we have a concept that we refer to as the “best first draft.” Rather than start every separate negotiation with a generic draft that will inevitably prompt a bevy of requests for individualized terms and custom language from the other side, what if you could quickly create a first draft containing individually selected clauses optimized for the deal at hand?

To illustrate, think of the governing law provisions of your agreements. Perhaps you default to setting Delaware as the state whose law will govern your contracts. However, let’s say that the AI searches your entire portfolio and finds that when the other party is based in New York or California, you almost inevitably end up adopting that state’s law in the governing law clause.

Rather than waste time by submitting first drafts with Delaware governing law to counterparties in New York or California and repeating the cycle of negotiating and ultimately revising that clause, you could create new defaults based on the other party’s location: New York law for New York-based counterparties, California law for California-based counterparties, and Delaware law for everyone else.

An AI-based contract management system can help you streamline contract negotiation by identifying the best language to use for the context at hand, based on what has worked for your business in the past.

Effective management of both your institutional knowledge and your contract creation workflows is essential if you want to create your best first draft.

Ready to learn more about how Evisort’s powerful AI can help you prepare your best first draft for contract negotiations? Schedule a demo today!

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Test Evisort on your own contracts to see how you can save time, reduce risk, and accelerate deals.