Game Theory in Negotiation

Key Learnings

(Photo from Business Negotiation as a Crucial Component of Sales)

I have always been fascinated by game theory and its application in negotiation. Although in the past I have read about game theory and negotiation separately, it wasn’t until I started negotiating for a living that I really tested the full extent of the correlation between the two.

Throughout the past three years I had the opportunity to attend sales and negotiation trainings, was mentored, coached and developed practical experience of negotiating firsthand. Today as I reflect on this experience, I can retrospectively share my key learnings by linking the practical experience with the theory behind it.

As I started my negotiation experience, I came in with a preconceived notion that it will have to be fight for the win, whatever the counterparty will lose I will win. Anyone familiar with game theory would recognize what I just described is based on Von Neumann’s first theory around the zero-sum game. This is the first type of game that Game Theory attempted to solve, where two people facing each other during which whatever one person wins, the other will lose. The concept, which was originated by the legendary John von Neumann, simply says that you should pick the strategy where the maximum advantage of your opponent is minimized. In real life, you just need to have a clear idea of what you want and eliminate inferior options. Your advantage can sometimes be increased if you don’t announce your preferences to your opponent so that he still must consider variables which you don’t.

Prisoner’s dilemma

(Photo from Teamwork and The Prisoner’s Dilemma — What Would You Do? 3 Tips)

Although it is true that some negotiations are like that but most of the successful negotiations in the business world are based on the process of mutually agreeing and influencing the other party to agree on a common course of action. A process whereby both parties come out getting something that they want, a win-win scenario. This is effectively what Nash discovered later.

John Nash came up with the solution to a more competed problem which Von Neuman’s superlative instincts failed him to accomplish. Nash came up with the Nash Equilibrium, studying the individual, he was able to create a game theory in which there was a possibility of mutual gain. This was possible when individually each player chose the best response to the other players’ best strategies. The most famous and interesting example became known as prisoner’s dilemma which was what most corporate modern negotiation is based on.

Having reframed my concept of what negotiation is, I started practicing it daily and testing the boundaries of its success. Below are the key learnings that I have developed throughout my experience.

  • Planning and having a clear strategy in advance of the tender is very important. Doing that will give you an advantage.
  • Building trust is key for negotiating. I would even go further to say that you should never lie during negotiation.
  • Keep your cards closed then gradually and tactically open them one by one to get ahead in the negotiation.
  • The customer is not your opponent, it the other supplier who is the key opponent. Gathering as much information about your competition and your counterparty’s Best Alternative Option and walkaway position will give you a competitive edge.
  • Cooperation brings cooperation and defection brings defection. The most successful approach historically has been imitating yours opponent’s last move.
  • Constructive tension is essential for success. Don’t be afraid to create tension when needed by playing the red card while maintaining the green card for later stages.
  • Frequent and long term relationships are very important. If the prisoners dilemma is open ended, people have more reason to cooperate. However, if the engagement is limited they will be more likely to defect.
  • Minimize Risk: It is usually a good strategy to minimize your opponent’s maximum payout, even if that means that you are guaranteeing him a higher minimum.
  • Make the first offer: Although this may seem counterintuitive, in practice unless you don’t have enough information, it is better to go first. This allows you to lead and frame the negotiation to your advantage.
  • Don’t give anything without taking something in return. Once you fall into this trap you have created a precedent which will put you at a disadvantage.