What Can Principal Agent Theory Teach Negotiators?

Is there a gap between you and your agent's incentives?
Is there a gap between you and your agent’s incentives?
Image Credit: Photo by rawpixel on Unsplash

There are times when something is being negotiated that we choose to not go it alone. Instead, we decide that we need some help. When this happens we may bring in an agent to represent us to the other side . However, this can cause problems. If you do this, you wonder whether you can trust the agent to fully represent your best interests no matter what negotiation styles or negotiating techniques are being used. The bad news is that according to principal agent theory, the answer often is “no.”

What’s Wrong With Using An Agent?

Principal agent theory which was created in the 1970s describes the pitfalls that arise when the “agent” is representing another person or group, known as the “principal.” We hire an agent—such as a lawyer, real estate agent, business adviser, diplomat, or entertainment agent—when we lack the knowledge, experience, or access needed to carry out a particular negotiation effectively. Though agents can be indispensable in certain contexts, their role can be fraught with peril for the principal – that’s you!

Problems can start to arise due to the fact that an agent’s interests are rarely identical to yours . The reason for this is because of how the agent gets paid. In a real estate deal, for example, a buyer’s agent typically has little interest in getting his client the lowest price possible on a home. The higher the sale price, the higher his commission, a percentage of the sale price, will be. See the problem? Like all of us, agents typically are unaware when conflicts of interest compromise their decisions. But such perverse incentives are typical of principal-agent relationships.

Principal agent theory finds flaws with virtually all types of fee structures that are commonly used to compensate agents. Agents who bill by the hour, for example, gain incentives to drag out their work. Principals often have difficulty monitoring their agents’ work to ensure they are performing efficiently.

What’s The Best Way To Work With An Agent During A Negotiation?

As a negotiator, you can find yourself in a bind when you encounter a situation where you need the skills that an agent can provide you with but you also understand the perverse incentives identified by principal agent theory. How can you ensure that you will get you the best deal possible? The first thing that you have to do is to investigate the agent’s negotiating style. Look for an agent who recognizes the value of collaborating to enlarge the pie of resources with the other party before fighting hard to get you the biggest slice.

You will have a relationship with your agent. This means that you need to negotiate your role . Discuss with the agent what your role will be in the negotiation. You are going to have to decide if you will be at the table with the agent serving as a behind-the-scenes adviser? Are you going to be absent and reliant on the agent to fill you in on what happens? Negotiate an arrangement that makes sense to you both based on your strengths.

The most important thing that a negotiator need to understand is that you don’t want to give away your bottom line . Negotiators often make the mistake of telling their agents how low or how high they are willing to go to make a deal. That’s typically a mistake, as it could anchor the agent toward an unambitious goal. When you provide this information to your agent you are giving them the ability to agree to a particular figure and this hands over too much negotiating authority. Instead, you might give your agent the freedom to brainstorm options at the table but not the ability to make binding commitments without your approval.

What All Of This Means For You

As negotiators we understand that we don’t know it all. There will be principled negotiations when we need to bring in outside help in order to get the deal that we want . It turns out that when we do this, things can get complicated because our agent may not have our best interests at heart.

The problem that a negotiator can run into with an agent is that the agent’s incentives may not line up with yours . How the agent gets paid can cause them to take actions that will not help you to get the deal that you want. If we want to work with an agent successfully, we need to take the time to look into the agent’s negotiating style. We want it to match our goals for the negotiation. Since you’ll be working with agent, you will need to negotiate your role in the negotiations. A key point that you’ll have to keep in mind is that you don’t want to give away your bottom line because that would be giving too much power to your agent.

Principal agent theory highlights the risks of negotiating through an agent. By managing these risks, you can increase the odds that your agent will bring you a better deal than you could have negotiated yourself . Take the time to ensure that your agent’s motives line up with yours and you’ll be able to use an agent to get the best deal possible.

– Dr. Jim Anderson
Blue Elephant Consulting –
Your Source For Real World Negotiating Skills™

Question For You: If you decide that an agent is not working in your best interest, should you fix the problem or get rid of the agent?

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What We’ll Be Talking About Next Time

So how many times has this happened to you? You are involved in a negotiation. Everything seems to be going pretty well – your negotiation styles and negotiating techniques seem to be working. A deal is starting to form up and both sides are starting to see what they may be able to walk away from this deal with when all of sudden something changes. A spoiler enters into the negotiation. Once this happens, something almost magical happens (in a bad way) and the deal that had looked so close jumps out the window and runs away never to be seen again. Clearly a deal spoiler is not something that any of us want to invite to a negotiation; however, what can we do to prevent it from showing up unannounced?