The Idea in Brief
The deal looked so promising: a merger of Deutsche Bank and Dresdner, which would have produced the world’s third largest bank. But the agreement unraveled within hours of its announcement.
What happened? While the parties had agreed to the letter of the deal—the economic contract—they neglected its spirit—the social contract—which included assumptions that the new entity wouldn’t sell a Dresdner division.
Though parties may agree to identical terms on paper, they may have contrasting expectations about how their agreement will work in practice. Unless they concur on the social contract—that is, by explicitly discussing assumptions before cementing a deal—the agreement may sour.
The Idea in Practice
The Social Contract
The social contract has two levels:
- The underlying social contract answers, What is our agreement’s nature and purpose? Is this a short- or long-term deal? A discrete transaction or partnership? How much autonomy will each party have? What decisions will each participate in? Parties differing in basic ways—small versus large, entrepreneurial versus bureaucratic, and so on—often hold divergent views of the underlying social contract.
- The ongoing social contract answers, How will we work together? How will we communicate? Consult with each other? Resolve disputes? Handle surprises?
Risk Factors
Lack of awareness causes most social-contract misunderstandings. Parties form expectations about how the deal will be implemented but don’t necessarily discuss them. Certain conditions are especially ripe for misunderstandings:
- Cultures clash. When a U.S. plant manager instigated downsizing at NCR Japan, differing cultural expectations about lifetime employment sparked organization of a union and a supplier boycott at NCR Japan.
- Third parties drive the deal. When investment bankers or other professional negotiators drive deals, conflicting social-contract assumptions can be overlooked. Involve those who must make the deal work in the negotiating process—where they can begin forging a positive social contract.
Example:
When Matsushita Electric considered acquiring MCA (owner of movie studios and record companies), former talent agent Michael Ovitz brokered the deal. To build momentum, Ovitz separated the parties during negotiation—unwittingly causing each side to form distorted views of the other’s intentions. Result? Post-deal friction and Matsushita’s sale of MCA to Seagram several years later—at a $1.64 billion loss.
- Too few parties are involved in the deal. Even tightly aligned social and economic contracts can fragment if only a few individuals share the agreement’s expectations. Widen the web of dependencies throughout your company to cultivate more sustainable relationships—and greater commitment to implementing agreements.
Dovetailing the Contracts
To boost your deal’s chances of success, make economic and social contracts mutually reinforcing. Example:
To save its business in the late 1980s, Chrysler defined a new social contract emphasizing cooperation and long-term partnerships with suppliers, expecting them to improve their own performance and enhance Chrysler’s overall operations. It also revised its economic contracts. Rather than selecting lowest bidders, it prequalified suppliers based on their engineering and manufacturing capabilities and past performance, then lengthened contract life from two to four years. The payoff? A 32% reduction in vehicle-development time and rise in per-vehicle profit from $250 to $2,110.
Experienced negotiators are generally comfortable working out the terms of an economic contract: They bargain for the best price, haggle over equity splits, and iron out detailed exit clauses. But these same seasoned professionals often spend so much time hammering out the letter of the deal that they pay little attention to the social contract, or the spirit of the deal. So while the parties agree to the same terms on paper, they may actually have very different expectations about how the agreement will work in practice. Without their arriving at a true meeting of the minds, the deal they’ve signed may sour.
