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When contracts fail ….

April 20, 2016

“Why is it called contract failure? It’s failure of a relationship.”

That was the reaction of a group of law professors in Tokyo this week, when I showed them a set of newspaper headlines highlighting ‘failed contracts’.

In a culture where relationships have traditionally dominated and contracts have been deemed of little importance, such a reaction is understandable. The contract is not seen as a specific commitment vehicle or a significant management tool. Therefore, it cannot ‘fail’ and those headlines are more likely to lead to a questioning of the relationship.

For cultures that make substantial use of contracts, it is often the case that an individual agreement can fail without inflicting lasting damage on the overall relationship.

These differences of approach and perception are important to understand because they may reflect quite fundamental variations in the way that agreements are established, viewed and managed. In Japan – and some other parts of Asia – the relationship may precede the contract; a contract is created only when a relationship has shown its value. In the United States – and most other common law jurisdictions – the contract comes first and a relationship may follow.

Similarly, relationship cultures tend to rely on personal contact or connections to review performance or address problems, without reference to a contract (which may or may not exist).

These apparently simple differences can have significant implications. For example, when one side wants to push for a contract and the other wants first to develop a relationship, there is real potential for misunderstanding. One side may feel the other is not to be trusted because it is avoiding commitment. The other may feel that it is being pushed into a rigid structure before it is ready. Similarly, attitudes to how performance will be managed, or changes agreed, will inevitably differ in their level of formality.

The differences go deeper. For those in a relationship-based business culture, ‘relational contracting’ implies a reduction in the role of the contract. For those who come from a contract-based culture, relational contracting implies an expansion of the contract’s role, to include increased clarity over approaches to governance and performance.

Given the uncertainties and underlying risks and complexities of global business, it seems more likely that contracting discipline will increase to ensure that there is shared understanding and agreed methods of management. Of course relationships are important, but the challenge of increasingly virtual business, operating across language, law and business culture, demands mechanisms that increase clarity, not those that entirely depend on human memory and goodwill.

 

 

2 Comments
  1. I’m glad to see some specific examples of how international cultural differences affect contracting. Both contracts and personal relationships are what Geert Hofstede (the godfather of studies of cultural differences) would call “Uncertainty Avoidance” mechanisms. Western, and especially Northern Europe and the US tend to rely on contracts. Asia and Southern Europe are more in tune with personal relationships. The relative importance of contracts is one big difference.

    There are two others that come from culture:

    -amount of detail that’s appropriate for a contract (try comparing a Japanese apartment lease to a US lease)

    -expectation of renegotiability when the unanticipated happens

    All this is as important as Code versus Common law differences.

  2. The first time I was involved in a relational contract in the late 90’s, it was not an either/or choice. The contract started with a blank sheet of paper, and the key elements were discussed and developed as part of the project leadership team building workshop. When the leadership team (representing the three companies involved) was happy that the evolving document – at some 15 pages – represented their common intent, only then it was passed to the contracting experts to complete the details.

    That core document represented both the heart of the contract, but also the heart of the relationships, since the leaders of all three companies had worked so hard on it whilst at the same time getting to know each other.

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