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Trust Matters, The Podcast: Managing Missed Client Deadlines (Episode 11)

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Can Trust Replace Contracts?

Too often trust is thought of as a nice-to-have but vaguely soft, squishy, liberal sort of relationship thingy. Not often enough do we realize it also holds the key to reducing costs and time, and to fostering innovation and new value creation.  It also mitigates risk.

It’s true: trust is highly profitable. Consider how Warren Buffett acquired McLean Distribution from Walmart. By deciding to trust the management team at Walmart, Buffett reached an agreement in a matter of days and at minimal cost, saving months and many millions in cost.

You may be saying, ‘Fine—but who’s going to double-cross Warren Buffett? It’s different for him.”

I don’t think so. Let me add my own small lesson.

To Sign a Contract? Or to Trust?

In addition to speaking and writing, I run a seminar business. I’ve spent this week training a half dozen worldwide potential trainers, sharing with them all the training manuals, approaches, ideas and concepts that I have developed over the years.

Normal procedure would be for me to have them all sign a non-disclosure agreement to protect my intellectual property, which is, after all, the source of my livelihood. Such agreements can be more or less complex. If violated, they give me the legal right to pursue redress in courts in various countries should one of my licensees/coaches/contractors abscond with my materials or be found to be using them for their own purposes without properly getting my approval or compensating me appropriately.

I could have done that.

Instead, I explained to them that I would prefer to trust them to do the right thing. We went through a 60-second ceremony. All of us raised our hands and, looking at each other, pledged two things: to respect my intellectual property in the commonsense way they felt was right; and if there was any question about what that meant, to talk to me and the rest of our team about it.

No papers. No contracts. Nothing written. Not enforceable in any court of law.

Where’s the Enforceability in Trust?

I feel more protected by this oath than I do by any legal agreement I might have signed. Why? Certainly not because it’s enforceable in a court of law.

Rather, because it’s enforceable in a higher court; the one of their conscience. Conscience is triggered by conscious, collaborative relationships between human beings.

I have no doubt that this group of people, with whom I have worked closely over several days and for months preceding this gathering, will honor the pledge. I trust them. This is partly because of who I know them to be, and also partly because I trust them.

Trust is not something you work on directly; trust is a result. It is the result of two parties interacting: one who trusts, and the other who is trusted. You can practice both trusting and being trustworthy. Probably the fastest way to make people more trustworthy is to trust them first.

Is it risky? Of course.  But I think it is less risky than relying on the rather impersonal and tenuous threads of trademark law. My recourse to legal violations is courts, which are costly, time-consuming, and generally manufacture ill-will in the pursuit of their justice.

By contrast, trusting my business relationships itself increases their trustworthiness, which also lowers my risk–and at near-zero cost. My means of enforcement is pre-installed within them in the form of their consciences.

It’s a win-win. Except maybe for the lawyers.

And frankly I think there’s room for lawyers to gain from this too. But that’s another blog.

 

This post first appeared on TrustMatters. 

Nice Place Here, Shame if Anything Happened

copyright Nate Osborne 2013It’s the opening to dozens of gangster movies. The mob guy with a rakish hat and a sneer sidles into the hard-working good citizen’s retail establishment, knocks some cigarette ash on the floor, and says, “Nice little business you got here, mister. It’d be a shame if something were to happen to it, know what I mean?”

And we do know what he means, and so does the terrorized citizen. It’s the protection racket. If you pay, then indeed, nothing happens. If you don’t pay, well, it’s amazing how bad stuff just happens.

Of course, that doesn’t happen in business today.  Right?

The White-collar, Fully-legal, Hands-clean Shakedown, Corporate Edition

In fact, something much like that does happen – though it’s highly sanitized. It’s legal; no individual has bad or evil intentions; and it’s justified as a business best practice. But the effect is the same – the business at the end of the food chain pays a lot of “insurance” for bad events that don’t look like happening. And instead of mobsters getting rich, it’s lawyers and insurance companies.

A simple example. My firm recently sold a single, one-day, off-the-shelf learning program to a corporate client. The contract and statement of work proposed by the client ran to over 10 pages of fine print.

On our end, it went through the hands of four people, including our lawyer, who I struggle mightily to keep under-employed. On the client side, we know personally of three people with whom we interacted, and I am guessing there were more. Total elapsed time was 2-3 months.

The contract included fairly typical clauses to the effect that we would not steal their intellectual property, lists, or secrets; generously they agreed to return the favor.

It also included clauses saying that we would generally indemnify them against everything from lawsuits about IP to people falling on their sidewalks to taking bad advice from us. (And here I worry about trying to get clients to take my advice!)

Most interesting to me was the clause that – at their request – we would submit our trainers to drug testing and to criminal record searches, through whatever such means as the client would dictate, of course at our expense. Moi? Nous? I mean, we’ve got our faults, but…

All this in order to gain the privilege of giving a workshop on – wait for it – how to establish trust-based business relationships. (And yes, I am painfully aware of the irony, even if the client is not. But you go where you are most needed, and agreeing to a training session on trust is actually a pretty good first step.)

Sadly, this is not a unique story. In fact, about 80% of it is standard operating procedure these days. In this case, I sent an email protesting that we felt mildly insulted about the drug test thing. I received back a most polite and apologetic note assuring me that that was surely not the intent, and that they felt badly about it – it’s just that, this is just how business is done – you know, it’s not personal, it’s business.

And voila, we’re back at the movies. See what I mean?

What’s Going On Here 

I want to emphasize, there are no bad intentions here; there are no laws being broken. To use the business vernacular, this is risk mitigation. But it’s risk mitigation gone rogue.

It starts with companies themselves as victims of a shakedown. A lawyer – perhaps their own internal counsel – tells them that they are subject to grave exposure from a lawsuit by some wild-eyed plaintiff’s attorney. Since lawyers vastly prefer to err on the side of caution, they like to be armed with shotguns when they go to hunt fleas.

One form of protection, conveniently served up by insurance companies (who love their lawyer friends) is straight-up insurance. But, apparently cheaper than buying your own protection is to lay off that protection cost onto those who are employed by the company: their suppliers, their employees, and their customers.

And so we get oppressive do-not-compete clauses for employees; mandatory arbitration in the fine print for customers; and send-that-indemnification-downstream to contractors for any risk you can think of.

The Extortionate Impact on the Economy

I welcome the comments of those better versed in economics than I to more accurately describe this, but I can suggest the outlines of four broad effects.

One is simply over-insurance. If I have market power over you (as big companies generally do over little companies, and buyers generally do over suppliers), then I can force you to pay for my insurance. And, I’d prefer to be over-insured rather than under-insured thank you very much, and frankly I don’t care if you have to over-pay for it. In fact, I’ll get it back in nice lunches from my professional partners-in-crime.

I have no idea how to quantify this effect, but since the phenomenon covers every industry, my tummy says it’s Big.

Second, this kind of burden massively adds to the level of transaction costs in our economy.  Initially described by Ronald Coase in the 1930s, transaction costs are non-value-adding costs which enable value-adding through other means, e.g. economies of scale.

But there comes a point when transaction costs begin to overwhelm the possible value they can enable, and cutting transaction costs themselves becomes a more sensible way to achieve economic success.

Are we at such a point?  Consider that the US has the highest ratio of lawyers per capita of any country in the world.  And that the lawyer-per-capita ratio in the US has gone up by 250% since 1950. (Personally, I can assure the reader that the contracting process for training sessions like the one I describe above was vastly simpler 20 years ago. And I sincerely doubt clients got burned, whether by drug-addled trainers or via other means.)

Third, this shakedown amounts to a massive, systemic substitution of check-boxes in place of management to govern the natural friction that exists between contracting people. For example, it substitutes a gigantic system of criminal record checks in place of a few personal phone calls for references. Among the costs of such substitutions is a decline in trust. A big one.

Finally, when you pile on so many transactional, impersonal “risk-mitigation” steps, you open up wide opportunities for corruption of various types. Corruption isn’t just handing over bags with cash. How many times have you heard, “Oh don’t worry about that phrase, we never pay attention to that anyway, it’s just part of the standard form.” How many times have you read the fine print at the bottom of every online purchase you make?

Where there is such casual, wholesale and willful ignoring of agreements, there is a ton of room to become cynical and unobservant about said agreements.

The next level up is easy – think of robo-signing mortgage agreements. And note all the irate protestations by bankers about how this was really no big deal. It’s not such a long step from there to the bags with cash. (Some readers might enjoy Mark Twain’s tale The Man That Corrupted Hadleyburg).

The parallel with moving from locally-made mortgage loans to globally aggregated, tranched and securitized packages is evident. When you depersonalize, you desensitize, and you de-ethicize.

Shades of Shakedowns

Of the two, the gangsters’ shakedown is more honest. It is authentic; you know what you’re being told, by whom, and for what purpose. You know that the threat is real, the intent unmistakable. By contrast, in the modern corporate shakedown, there are no villains, everyone has plausible deniability; they all have clean consciences and clean hands.

The mob had corrupt lawyers who could game the system. In the modern corporate shakedown, it is the system that is doing the shakedown.  We have MBAs, lawyers, and actuaries all soberly attesting that they have lowered the risk of our business contracting system at every stage.

Does anyone else smell a Black Swan here?

The Alternative

A major issue with trust is how to scale it. But maybe an even bigger issue is forgetting what it’s all about in the first place – what we have lost. Here’s a reminder.

I had a conversation with a solo consultant the other day, a disgusted emigrant from corporate America. He now does consulting and coaching for small business clients. His entire contracting process is as follows:

At the beginning of every month, you will send me a check for $5000. For the rest of that month, I will answer the phone all the time whenever you call. Should I ever not receive my check by the fifth day of the month, I will know that you’ve become unsatisfied with my services,  and we shall both expect further conversations to cease.

He has never had a dissatisfied client. His cost of sales is minimal. His legal fees are zero. His risk is pretty much nothing – because he has created a trust-based relationship.

I find that completely unsurprising. That’s just how it works – if we remember to let it.

Can Trust Replace Contracts?

SafeToo often trust is thought of as a nice-to-have but vaguely soft, squishy, liberal sort of relationship thingy. Not often enough do we realize it also holds the key to reducing costs and time, and to fostering innovation and new value creation.  It also mitigates risk.

It’s true: trust is highly profitable. Consider how Warren Buffett acquired McLean Distribution from Walmart. By deciding to trust the management team at Walmart, Buffett reached an agreement in a matter of days and at minimal cost, saving months and many millions in cost.

You may be saying, ‘Fine—but who’s going to double-cross Warren Buffett? It’s different for him.”

I don’t think so. Let me add my own small lesson.

To Sign a Contract? Or to Trust?

In addition to speaking and writing, I run a seminar business. I’ve spent this week training a half dozen worldwide potential trainers, sharing with them all the training manuals, approaches, ideas and concepts that I have developed over the years.

Normal procedure would be for me to have them all sign a non-disclosure agreement to protect my intellectual property, which is, after all, the source of my livelihood. Such agreements can be more or less complex. If violated, they give me the legal right to pursue redress in courts in various countries should one of my licensees/coaches/contractors abscond with my materials or be found to be using them for their own purposes without properly getting my approval or compensating me appropriately.

I could have done that.

Instead, I explained to them that I would prefer to trust them to do the right thing. We went through a 60-second ceremony. All of us raised our hands and, looking at each other, pledged two things: to respect my intellectual property in the commonsense way they felt was right; and if there was any question about what that meant, to talk to me and the rest of our team about it.

No papers. No contracts. Nothing written. Not enforceable in any court of law.

Where’s the Enforceability in Trust?

I feel more protected by this oath than I do by any legal agreement I might have signed. Why? Certainly not because it’s enforceable in a court of law.

Rather, because it’s enforceable in a higher court; the one of their conscience. Conscience is triggered by conscious, collaborative relationships between human beings.

I have no doubt that this group of people, with whom I have worked closely over several days and for months preceding this gathering, will honor the pledge. I trust them. This is partly because of who I know them to be, and also partly because I trust them.

Trust is not something you work on directly; trust is a result. It is the result of two parties interacting: one who trusts, and the other who is trusted. You can practice both trusting and being trustworthy. Probably the fastest way to make people more trustworthy is to trust them first.

Is it risky? Of course.  But I think it is less risky than relying on the rather impersonal and tenuous threads of trademark law. My recourse to legal violations is courts, which are costly, time-consuming, and generally manufacture ill-will in the pursuit of their justice.

By contrast, trusting my business relationships itself increases their trustworthiness, which also lowers my risk–and at near-zero cost. My means of enforcement is pre-installed within them in the form of their consciences.

It’s a win-win. Except maybe for the lawyers.

And frankly I think there’s room for lawyers to gain from this too. But that’s another blog.

How Too Many Legal Contracts Are Costing Business

What do work-for-hire contracts, email disclaimers and spam have in common? They are all getting ubiquitous, annoying—and ineffective.

Here’s what I mean.

Trend #1: Business is moving from a vertical management model to a horizontal purchasing model. Consider benefits administration: once a department reporting to the VP HR, now a purchased service, linked to the company by a commercial contract for services.

The Result: more contracts.

Trend #2: Communications and media—like books, records, movies and letters—have been fragmented, even atomized. In their place: email, twitter, web sites, links, sampling, and digitization. Far more opportunities for claims of intellectual property rights.

The Result: more contracts.

Contracts and Costs

Think of contracts as transaction costs. Unlike production costs, contracts add zero value. They are a tax on productivity—necessary for orderliness in a complex society, but a form of overhead nonetheless.

Here’s the problem. Costs of production go down with scale. Transaction costs, however, go up. Often exponentially.

The more commercial contracts, the more detailed the lawyers will want to make those contracts. The more fragmented the bits of sample music are, the more detailed must the IP contracts become to cover all eventualities.

The old response to risk was to create tighter contracts. But as the world becomes more complex, the ever-fertile legal mind will find more and more risk to be mitigated—and will unfortunately default to the only thing it knows—more and more complex contracts.

When quantity of contracts demanded is multiplied by some exponential complexity factor, you’ve got a serious economic issue. It’s hard to nail down the macro-economic costs of complexity, but they are very real. See, for example, Steven Covey’s Speed of Trust or Collaboration Rules by Philip Evans and Bob Wolf.

Still, you can get a visceral example of it by looking at email disclaimers. Spudart offers a tour of 50-plus samples—Great Moments in Email Disclaimers, so to speak—for your reading pleasure.

Or harken back to BusinessWeek’s legal advice to small business owners to use the fine print on sales receipts to protect companies from their customers.

And the Law Offices of Ernest Sasso gives you the downward spiral of logic that leads lawyers to attach such disclaimers to their own email; you can see the slippery slope by which every email by everyone to anyone should—in theory—have disclaimers attached.

It is, of course, ironic that disclaimers usually say "don’t read this if it wasn’t meant for you." Too bad they come at the end, after you’ve read the email.

More significant are increasing clauses in commercial contracts. Five years ago, I wasn’t being asked to certify that my subcontractors on a $50,000 consulting job had automobile insurance. I don’t recall being asked to indemnify huge clients against potential suits by third parties for theft of intellectual property. I don’t recall the ubiquity of IP suits I’m hearing about now.

Only Luddites object to increasing complexity. But only troglodytes insist on pushing the same old tools in changed circumstances, not noticing that the tools are making things worse, rather than better.

Interestingly, parties to contracts are beginning to push back in their own way—through the use of constructive hypocrisy. “Sorry about this, the lawyers are requiring it…you know, this won’t ever really come up…it’s just a technicality, if we ever need to address it we’ve always worked it out before…come on, this doesn’t really have to change things…”

Constructive hypocrisy is often quite preferable to actually trying to live by this contractual spam. Unfortunately, many people insist on actually meaning it. And enforcing it, if only for power plays. And it doesn’t take too many to force the rest to live by it.

Is there an alternative? You betcha. It’s called more trust.

If you think that’s fluffy, read about how one buyer bought an $800 million business in 20 minutes in this Wall Street Journal article.

The buyer? Warren Buffett.

 

Would You Buy a Used Car From This Scientist? Not If You’re a Scientist!

Peter Calamai is Science Writer for the Toronto Star. He recently wrote about the demise of society’s trust in its scientists. He’s got a lot of statistics that ought to cause scientists great concern about the level of trust in scientists.

And, as he says:

After two days of provocative ideas and spirited exchanges at an international gathering recently in Toronto, British museum curator Robert Bud neatly summed up the collective wisdom.

"The scientists are terrified."

Calamai’s most cogent point may be this:

Scientists might ask themselves about the erosion of the traditional trust relationships among researchers, who once readily exchanged things like specialized strains of mice or reagents, custom chemicals used in experiments.

Increasingly such exchanges are now circumscribed by material transfer agreements, complex legal documents that spell out details like liability and indemnification, due diligence and standards for care. Some even feature "reach-through" clauses, guaranteeing the supplier of the materials a share in any subsequent commercialization because of subsequent research done elsewhere.

Use of these agreements is exploding. In 1998, the University of Toronto handled about 30. This year, +*officials have reviewed 170.  Similar growth at U.S. universities prompted this wry workshop comment from Notre Dame’s Mirowski: "Why should the public trust science when it is becoming apparent that scientists less and less trust each other?"

Why indeed.

Let’s break this down. There’s a bigger trend going on here—two, actually.

One trend is the fragmentation of big things into little modules. The other is the re-connection of modules into big things again.

Take business processes. Companies used to have HR departments. Now they have many specific HR sub-processes, which can be outsourced, which in turn requires standardization. Big things broken into little; little things reconfigured into big. Now companies can configure their own HR departments.

Take music. The record business used to record artists on vinyl and sell the product through physical stores. Now artists, recording, and marketing are going off in dozens of directions. A big business broken into little parts; little parts reconfiguring into dozens of designs.

Take software, movies, travel, training, banking. All used to be made of monolithic structures. All can now be configured in myriad ways.

But here’s the catch. The main way we reconfigure modules in the world is by contract, in some kind of market.

That means transactions. That means costs, complexity, and lawyers. It means every little module has to be priced, defined, tracked, and contracted.

The trend has hit absurd levels in many places by now.

• How many levels of automated phone answering software can you stand before exploding?
• Sampling of a half-second of music is subject to copyright law so we can write royalty checks to dozens of people from thousands of users;
• And now scientists don’t share because we need to prospectively track the rights to thinks that might be invented in the future.

This is what happens when a new technical/organizational reality meets an outmoded ideology.

The new reality is the ability to connect everything and everyone to everything and everyone else.

The outmoded ideology is the idea that everything is property—and is therefore definable, trackable, assignable and salable.

Put those two together, and something’s got to give. Eventually, it will be the outmoded ideology that gives. The question is, how long will the forces of resistance hold it back?

How long can we live with outmoded laws governing intellectual property, water rights and patents?

How long can we put up with outmoded business models that define relationships by boundaries rather than by bonds?

How long can we live with corporate and social governance models that can’t figure out how to make individuals accountable to the public good, and present generations accountable to their heirs?

Chief Seattle, in 1854, supposedly said, “The earth does not belong to us; we belong to the earth.”

With a little updating, that’s exactly the thinking we need. The more complicated and topheavy the contract/ownership model gets, the more economically superior becomes a model based on trust and mutual interests.

Flaky? Not at all. Read, for example, a Nobel Prize economist’s lecture here, or read a Harvard Business Review article here.

Trust is not flaky, it is commonsense. It’s just not common. Yet.