Week 10 Buyer - CentriComp

In this exercise, you represent CentriComp. Your company makes specialized computer chips in a
process that uses expensive and potentially toxic cleaning solvents. You are trying to close a deal
with Creative Engineering. Creative sells and services sophisticated equipment for recycling such
solvents which is legally required for your segment within the industry. You have full authority to
reach agreement, or to end the negotiation with Creative without a deal if their representatives
insist on terms that are unattractive to your company.
The appropriate technology has been jointly agreed on by a team of engineers from both
companies and is not open to negotiation. There are, however, a few important unresolved issues
including price, service package, payment terms, and installation schedule. In a prior negotiation,
the following proposal was on the table, but was not accepted by either side:
Nominal price: $10,000,000

Payment schedule: Back-loaded installments

Service package: Standard

Delivery date: Three months from date of contract signing

If Creative insisted, you could reluctantly agree to those terms, but they are only marginally
acceptable, and you aim to do substantially better. Here is how you should evaluate alternative
packages.

Purchase price. As the buyer, you would obviously like to pay a lower price. However, on its own,
the purchase price does not tell you much about how much the deal is worth to you.

Payment schedule. There are three different payment options: “Even” (in which payments are
made evenly over the life of the contract), “Front-loaded” (in which you pay more at the beginning
of the contract), and “Back-loaded” (pay more at the end of the contract). In general, like most
buyers, you prefer to delay payment. Your company applies the following discount factors when
calculating the present value of different price and payment packages:

• Front-loaded 93 percent of nominal price

• Even payments 88 percent of nominal price

• Back-loaded 82 percent of nominal price

These discount factors mean that you would need to get a lower price if Creative wanted to
accelerate payment. As a baseline, the $10.0 million (Back-loaded) price on the table is worth
$8.2 million in present value terms ($10.0 million x 82% = $8.2 million). That would be same as
paying $9.3 million on an Even plan ($9.3 million x 88% = $8.2 million). And if you agreed to a Front-
loaded plan, you would need a price reduction down to at least $8.8 million ($8.8 million x 93% =
$8.2 million). Of course, you would strongly prefer in all cases to pay less than these amounts for each
payment schedule.

Service package. The operation and maintenance of recycling equipment requires regular service
by highly trained technicians. The proposal on the table considers the lowest level of service over
the five-year life of the contract. Under the Standard service package, Creative would only do
limited warranty work. By contrast, under a Package Four service agreement, Creative would take
full financial and administrative responsibility for operating and maintaining the equipment.
Under Packages Two and Three, Creative and CentriComp would variously share that
responsibility.
Your engineers and accountants have calculated how much CentriComp would save with these
various options. Here, in present value terms, are the expected additional savings that each package
would produce for CentriComp, compared to the standard level of service.

• Package TWO service would save your company $1,600,000 compared to Standard.

• Package THEEE service would save your company $2,000,000 compared to Standard.

• Package FOUR service would save your company $2,350,000 compared to Standard.

Therefore, you would be willing to pay up to $1,600,000 more to upgrade to Package Two service
(and up to $2,000,000 more than standard for Package Three, and $2,350,000 for Package Four.)
You should negotiate whichever service package is the most cost effective, that is, whichever one
proves to be the best bargain (considering weighing its cost compared with the savings CentriComp
realizes from that service package).

Delivery date. The original negotiators contemplated installation three months from now.
Privately, however, you have just learned that your assembly line soon will be closed for other
repairs. It would be more efficient to install the recycling equipment now, rather than having
another disruption later. Therefore, you would be willing to pay Creative as much as a $300,000
premium to begin installation immediately. Obviously, you would be happier if you could get them
to do so without having to increase your payment.

Sustainability: Both environmental and social sustainability concerns must be addressed during
the negotiation. This involves you raising any potential sustainability issues with the Seller and
being satisfied that these issues have been addressed.
Other issues. Your technical staff are convinced that Creative makes the best equipment on the
market, and that it will successfully recycle 70 percent of the used cleaning solvents. As a result, our
company will still have to pay approximately $500,000 annually to ship the remaining highly toxic
material to a hazardous waste facility for proper disposal. This is an inevitable cost of doing business.
Creative claims that its system will do even better: specifically, that it will recycle 95 percent of the
used solvent. If so, your disposal costs would be reduced significantly, but Creative seems overly
optimistic. Your predecessor at the bargaining table tried (unsuccessfully) to argue that the more
plausible 70 percent success rate justified a lower price. Perhaps you can be more persuasive.
Strive to reach an agreement that creates as much net value for your company as possible. Good
luck!