Clear chain of punishment

Imagine that you have five different suppliers. You know that their costs have recently fallen and you want them to pass the savings on to you by reducing their price by 10%.

Each supplier knows that you cannot afford to drop more than one of the suppliers otherwise you won’t be able to fulfill your orders.

After the recent drop in their costs each supplier charges you $1m, has costs of $800,000 and makes a profit of $200,000 each year. If you get them to drop their price by 10% then their revenue comes down to $900,000, costs stay at $800,000, so their profit halves to $100,000.

When you approach one of the suppliers they will be thinking that if they agree to the price cut then they will definitely make a $100,000 profit. If they don’t then, as you can only stop using one of the suppliers, they have an 80% chance of making $200,000 and a 20% chance of making nothing. This is much better than definitely making $100,000 so they refuse to drop their price and take a chance that they will be the one that you stop using.

How can you change this situation in your favor?

Instead of randomly deciding which of the suppliers you are going to stop using, you should make it clear to the five suppliers the order in which you would stop using them if they don’t drop their price.

This changes the game.

Now, when you go to the first company on the list, they know that if they agree to the cut they are sure to make $100,000, but if they don’t then, as you have told them they will be the first to go, they will definitely make nothing.

Now you can move on to the second company on the list. They can choose to agree to the cut and make $100,000 profit, if they don’t then you will stop using them and they will make nothing.

This carries on for all the suppliers who are better off accepting the cut than losing their profits.

By attaching an order to how you will punish your suppliers you have changed the game and made it certain that they will accept your demands. By threatening all of them together they would all take the chance that they would not be the one to suffer.

 

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